##### Table of Contents

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FORM 10-Q



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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549



|x | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ---------------------------------------------------------------------------------

FOR THE QUARTER ENDED SEPTEMBER 30, 2006

Or



| ̈ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|- | ----------------------------------------------------------------------------------------

FOR THE TRANSITION PERIOD FROM             
TO

Commission File Number 001-09240



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TRANSCONTINENTAL REALTY
INVESTORS, INC.

(Exact Name of Registrant as Specified in Its Charter)



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|                                                               |  |                                     
|-------------------------------------------------------------- |  | ------------------------------------
|Nevada                                                         |  | 95-6565852                          
|(State or Other Jurisdiction of Incorporation or Organization) |  | (I.R.S. Employer Identification No.)

1800 Valley View Lane, Suite 300

Dallas, Texas 75234

(Address of principal executive offices)

(Zip Code)

(469) 522-4200

(Registrants telephone number, including area code)



(Former name, former address and former fiscal year, if changed since last
report)



---

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x.    No ̈.

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the
Act).    Yes ̈.    No  x.

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See definition of
accelerated filer in Rule 12b-2 of the Exchange Act (Check one):

Large accelerated filer ̈Accelerated filer ̈Non-accelerated filer  x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes ̈.    No  x.

APPLICABLE ONLY TO ISSUERS
INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS:

Indicate by check mark whether the registrant has filed all
documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.    Yes ̈.    No ̈.

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuers classes of Common Stock, as of the latest practicable date.



|                             |  |                                  
|---------------------------- |  | ---------------------------------
|Common Stock, $.01 par value |  | 7,900,869                        
|(Class)                      |  | (Outstanding at October 13, 2006)



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

FORM 10-Q

SEPTEMBER 30, 2006

TABLE OF CONTENTS



|                              |  |                                                                                                                   |  |   
|----------------------------- |  | ----------------------------------------------------------------------------------------------------------------- |  | --
|                              |  | PAGE                                                                                                             
|PART I: FINANCIAL INFORMATION |  |                                                                                                                  
|                              |  |                                                                                                                  
|Item 1.                       |  | Financial Statements                                                                                              |  |   
|                              |  | Consolidated Balance Sheets at September 30, 2006 (Unaudited) and December 31, 2005                               |  | 3 
|                              |  | Consolidated Statements of Operations for the three and nine months ended September 30, 2006 and 2005 (Unaudited) |  | 4 
|                              |  | Consolidated Statement of Stockholders Equity for the nine months ended September 30, 2006 (Unaudited)           |  | 6 
|                              |  | Consolidated Statements of Cash Flows for the nine months ended September 30, 2006 and 2005 (Unaudited)           |  | 7 
|                              |  | Notes to Consolidated Financial Statements                                                                        |  | 9 
|Item 2.                       |  | Managements Discussion and Analysis of Financial Condition and Results of Operations                             |  | 22
|Item 3.                       |  | Quantitative and Qualitative Disclosures About Market Risk                                                        |  | 28
|Item 4.                       |  | Controls and Procedures                                                                                           |  | 28
|                              | 
|PART II. OTHER INFORMATION    |  |                                                                                                                  
|                              |  |                                                                                                                  
|Item 2.                       |  | Unregistered Sales of Equity Securities and Use of Proceeds                                                       |  | 29
|Item 6.                       |  | Exhibits                                                                                                          |  | 30
|SIGNATURE PAGES               |  | 31                                                                                                               



2



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##### Table of Contents

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share data)

(Unaudited)



|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------------ | --------- | - | ----------------- | - | --------- | -
|                                                                                                                                                                                                        |  | September 30, 2006 |           |   | December 31, 2005 |  
|                                                                                                                                                                                                        |  | (Unaudited)        |           |   |                   |  
|Assets                                                                                                                                                                                                  |  |                    |           |   |                   |   |           |  
|Real estate held for investment                                                                                                                                                                         |  | $                  | 1,024,669 |   |                   | $ | 911,981   |  
|Lessaccumulated depreciation                                                                                                                                                                           |  |                    | (91,415   | ) |                   |   | (78,096   | )
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  |                    | 933,254   |   |                   |   | 833,885   |  
|                                                                                                                                                                                                        |  |                   
|Real estate held-for-sale                                                                                                                                                                               |  |                    | 37,866    |   |                   |   | 40,446    |  
|Real estate subject to sales contract                                                                                                                                                                   |  |                    | 66,427    |   |                   |   | 68,738    |  
|                                                                                                                                                                                                        |  |                   
|Notes and interest receivable                                                                                                                                                                           |  |                    |           |   |                   |   |           |  
|Performing (including $23,848 in 2006 and $34,370 in 2005 from affiliates and related parties)                                                                                                          |  |                    | 36,849    |   |                   |   | 59,922    |  
|Non-performing, non-accruing                                                                                                                                                                            |  |                    | 4,896     |   |                   |   | 4,896     |  
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  |                    | 41,745    |   |                   |   | 64,818    |  
|                                                                                                                                                                                                        |  |                   
|Investment in real estate entities                                                                                                                                                                      |  |                    | 24,335    |   |                   |   | 24,659    |  
|Marketable equity securities, at market value                                                                                                                                                           |  |                    | 8,780     |   |                   |   | 7,446     |  
|Cash and cash equivalents                                                                                                                                                                               |  |                    | 6,858     |   |                   |   | 5,462     |  
|Other assets (including $26,086 in 2006 and $1,103 in 2005 from affiliates and related parties)                                                                                                         |  |                    | 29,418    |   |                   |   | 43,625    |  
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  | $                  | 1,148,683 |   |                   | $ | 1,089,079 |  
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|Liabilities and Stockholders Equity                                                                                                                                                                    |  |                    |           |   |                   |   |           |  
|Liabilities:                                                                                                                                                                                            |  |                    |           |   |                   |   |           |  
|Notes payable (including $6,769 in 2006 and $6,787 in 2005 to affiliates and related parties)                                                                                                           |  | $                  | 723,784   |   |                   | $ | 654,882   |  
|Interest payable (including $730 in 2006 and $218 in 2005 to affiliates and related parties)                                                                                                            |  |                    | 3,981     |   |                   |   | 3,510     |  
|Liabilities related to assets held-for-sale                                                                                                                                                             |  |                    | 43,344    |   |                   |   | 53,084    |  
|Liabilities related to assets subject to sales contract                                                                                                                                                 |  |                    | 58,177    |   |                   |   | 58,685    |  
|Other liabilities (including $618 in 2006 and $12,272 in 2005 to affiliates and related parties)                                                                                                        |  |                    | 59,163    |   |                   |   | 66,500    |  
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  |                    | 888,449   |   |                   |   | 836,661   |  
|                                                                                                                                                                                                        |  |                   
|Commitments and contingencies                                                                                                                                                                           |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  |                   
|Minority interest                                                                                                                                                                                       |  |                    | 15,745    |   |                   |   | 1,239     |  
|                                                                                                                                                                                                        |  |                   
|Stockholders equity:                                                                                                                                                                                   |  |                    |           |   |                   |   |           |  
|Preferred Stock, $0.01 par value; authorized, 10 million shares Series C Cumulative Convertible; 30,000 shares outstanding at
September 30, 2006 and December 31, 2005; (liquidation preference $3,000) |  |                    |          |   |                   |   |          |  
|Common Stock, $0.01 par value; authorized, 35 million shares; 8,113,669 shares issued and 7,900,869 shares outstanding at September 30,
2006 and December 31, 2005                                      |  |                    | 81        |   |                   |   | 81        |  
|Additional paid-in capital                                                                                                                                                                              |  |                    | 256,337   |   |                   |   | 256,494   |  
|Treasury stock, 212,800 shares, at cost                                                                                                                                                                 |  |                    | (3,086    | ) |                   |   | (3,086    | )
|Accumulated deficit                                                                                                                                                                                     |  |                    | (10,001   | ) |                   |   | (1,846    | )
|Accumulated other comprehensive income (loss)                                                                                                                                                           |  |                    | 1,158     |   |                   |   | (464      | )
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  |                    | 244,489   |   |                   |   | 251,179   |  
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  
|                                                                                                                                                                                                        |  | $                  | 1,148,683 |   |                   | $ | 1,089,079 |  
|                                                                                                                                                                                                        |  |                    |           |   |                   |   |           |  

The accompanying notes are an integral part of these Consolidated Financial Statements.



3



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)



|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|---------------------------------------------------------------------------------------------------------- |  | ---------------------------------------- | ------- | - | --------------------------------------- | - | ------- | ---- |  | - | ------- | - |  | - | ------- | -
|                                                                                                           |  | For the Three Months Ended September 30, |         |   | For the Nine Months Ended September 30, |  
|                                                                                                           |  | 2006                                     |         |   | 2005                                    |   |         | 2006 |  |   | 2005    |  
|                                                                                                           |  | (dollars in thousands, except per share) |        
|Property revenue:                                                                                          |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Rents and other property revenues                                                                          |  | $                                        | 33,634  |   |                                         | $ | 27,168  |      |  | $ | 93,705  |   |  | $ | 73,569  |  
|                                                                                                           |  |                                          |         |  
|Expenses:                                                                                                  |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Property operations (including $4,672 in 2006 and $5,408 in 2005 to affiliates and related parties)        |  |                                          | 20,644  |   |                                         |   | 16,871  |      |  |   | 56,809  |   |  |   | 46,100  |  
|Depreciation and amortization                                                                              |  |                                          | 5,821   |   |                                         |   | 3,066   |      |  |   | 16,434  |   |  |   | 10,714  |  
|General and administrative (including $2,222 in 2006 and $2,359 in 2005 to affiliates and related parties) |  |                                          | 2,102   |   |                                         |   | 1,717   |      |  |   | 5,143   |   |  |   | 5,089   |  
|Advisory fees                                                                                              |  |                                          | 2,149   |   |                                         |   | 1,768   |      |  |   | 6,336   |   |  |   | 5,305   |  
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Total operating expenses                                                                                   |  |                                          | 30,716  |   |                                         |   | 23,422  |      |  |   | 84,722  |   |  |   | 67,208  |  
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Operating income                                                                                           |  |                                          | 2,918   |   |                                         |   | 3,746   |      |  |   | 8,983   |   |  |   | 6,361   |  
|                                                                                                           |  |                                          |         |  
|Other income (expense):                                                                                    |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Interest income (including $1,426 in 2006 and $2,336 in 2005 from affiliates and related parties)          |  |                                          | 724     |   |                                         |   | 791     |      |  |   | 2,393   |   |  |   | 2,688   |  
|Gain on foreign currency transaction                                                                       |  |                                          |        |   |                                         |   | 37      |      |  |   | 4       |   |  |   | 265     |  
|Mortgage and loan interest (including $730 in 2006 to affiliate)                                           |  |                                          | (13,139 | ) |                                         |   | (10,173 | )    |  |   | (38,628 | ) |  |   | (27,813 | )
|Litigation settlement                                                                                      |  |                                          |        |   |                                         |   |        |      |  |   | 1,804   |   |  |   |        |  
|Provision for asset impairment                                                                             |  |                                          |        |   |                                         |   | (1,840  | )    |  |   |        |   |  |   | (1,840  | )
|Other income                                                                                               |  |                                          | 265     |   |                                         |   | 485     |      |  |   | 571     |   |  |   | 719     |  
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Total other income (expense)                                                                               |  |                                          | (12,150 | ) |                                         |   | (10,700 | )    |  |   | (33,856 | ) |  |   | (25,981 | )
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Loss before gain on land sales, equity in earnings of investees and minority interest                      |  |                                          | (9,232  | ) |                                         |   | (6,954  | )    |  |   | (24,873 | ) |  |   | (19,620 | )
|                                                                                                           |  |                                          |         |  
|Gain on land sales                                                                                         |  |                                          | 2,974   |   |                                         |   | 2,332   |      |  |   | 11,995  |   |  |   | 4,735   |  
|Equity in earnings (losses) of investees                                                                   |  |                                          | (257    | ) |                                         |   | (170    | )    |  |   | (326    | ) |  |   | 976     |  
|Minority interest                                                                                          |  |                                          | 355     |   |                                         |   | 32      |      |  |   | 544     |   |  |   | 7       |  
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Income (loss) from continuing operations                                                                   |  |                                          | (6,160  | ) |                                         |   | (4,760  | )    |  |   | (12,660 | ) |  |   | (13,902 | )
|Add: income tax benefit                                                                                    |  |                                          | 646     |   |                                         |   | 396     |      |  |   | 1,577   |   |  |   | 3,835   |  
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Net income (loss) from continuing operations                                                               |  |                                          | (5,514  | ) |                                         |   | (4,364  | )    |  |   | (11,083 | ) |  |   | (10,067 | )
|                                                                                                           |  |                                          |         |  
|Income from discontinued operations (See NOTE 9)                                                           |  |                                          | 1,846   |   |                                         |   | 1,132   |      |  |   | 4,505   |   |  |   | 10,957  |  
|Less: income tax expense                                                                                   |  |                                          | (646    | ) |                                         |   | (396    | )    |  |   | (1,577  | ) |  |   | (3,835  | )
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Net income from discontinued operations                                                                    |  |                                          | 1,200   |   |                                         |   | 736     |      |  |   | 2,928   |   |  |   | 7,122   |  
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Net income (loss)                                                                                          |  |                                          | (4,314  | ) |                                         |   | (3,628  | )    |  |   | (8,155  | ) |  |   | (2,945  | )
|                                                                                                           |  |                                          |         |  
|Preferred dividend requirement                                                                             |  |                                          | (53     | ) |                                         |   | (53     | )    |  |   | (158    | ) |  |   | (158    | )
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  
|Net income (loss) applicable to common shares                                                              |  | $                                        | (4,367  | ) |                                         | $ | (3,681  | )    |  | $ | (8,313  | ) |  | $ | (3,103  | )
|                                                                                                           |  |                                          |         |   |                                         |   |         |      |  |   |         |   |  |   |         |  

The accompanying notes are an integral part of these Consolidated Financial Statements.



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS - Continued

(Unaudited)



|                                                                     |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|-------------------------------------------------------------------- |  | ---------------------------------------- | --------- | - | --------------------------------------- | - | --------- | ---- |  | - | --------- | - |  | - | --------- | -
|                                                                     |  | For the Three Months Ended September 30, |           |   | For the Nine Months Ended September 30, |  
|                                                                     |  | 2006                                     |           |   | 2005                                    |   |           | 2006 |  |   | 2005      |  
|                                                                     |  | (dollars in thousands, except per share) |          
|Basic earnings per share:                                            |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Income (loss) from continuing operations                             |  | $                                        | (0.70     | ) |                                         | $ | (0.56     | )    |  | $ | (1.42     | ) |  | $ | (1.29     | )
|Discontinued operations                                              |  |                                          | 0.15      |   |                                         |   | 0.09      |      |  |   | .37       |   |  |   | 0.90      |  
|                                                                     |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Net income (loss) applicable to common shares                        |  | $                                        | (0.55     | ) |                                         | $ | (0.47     | )    |  | $ | (1.05     | ) |  | $ | (0.39     | )
|                                                                     |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Diluted earnings per share:                                          |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Net income (loss) from continuing operations                         |  | $                                        | (0.70     | ) |                                         | $ | (0.56     | )    |  | $ | (1.42     | ) |  | $ | (1.29     | )
|Income from discontinued operations                                  |  |                                          | 0.15      |   |                                         |   | 0.09      |      |  |   | .37       |   |  |   | 0.90      |  
|                                                                     |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Net income (loss) applicable to common shares                        |  | $                                        | (0.55     | ) |                                         | $ | (0.47     | )    |  | $ | (1.05     | ) |  | $ | (0.39     | )
|                                                                     |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Weighted average common shares used in computing earnings per share: |  |                                          |           |   |                                         |   |           |      |  |   |           |   |  |   |           |  
|Basic                                                                |  |                                          | 7,900,869 |   |                                         |   | 7,900,869 |      |  |   | 7,900,869 |   |  |   | 7,900,869 |  
|Diluted                                                              |  |                                          | 7,900,869 |   |                                         |   | 7,900,869 |      |  |   | 7,900,869 |   |  |   | 7,900,869 |  

Series C Cumulative Convertible Preferred stock (convertible after September 30, 2006 into common stock
estimated to be approximately 249,650 shares) and options to purchase 40,000 shares of TCIs common stock were excluded from the computation of diluted earnings per share for the three and nine months ended September 30, 2006 and 2005,
because the effect of their inclusion would be antidilutive.

The accompanying notes are an integral part of these Consolidated Financial
Statements.



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY

For the Nine Months Ended September 30, 2006

(Dollars in thousands)

(Unaudited)



|                                                                                          |  |                 |  |              |   |                |           |        |                |    |  |                     |         |   |                                              |   |        |                      |  |   |         |   |  |   |       |   |  |   |         |  
|----------------------------------------------------------------------------------------- |  | --------------- |  | ------------ | - | -------------- | --------- | ------ | -------------- | -- |  | ------------------- | ------- | - | -------------------------------------------- | - | ------ | -------------------- |  | - | ------- | - |  | - | ----- | - |  | - | ------- | -
|                                                                                          |  | Preferred Stock |  | Common Stock |   | Paid-inCapital |           |        | Treasury Stock |    |  | Accumulated Deficit |         |   | Accumulated Other ComprehensiveIncome
(Loss) |   |        | Stockholders Equity | 
|                                                                                          |  | Shares          |  | Amount       |   | Shares         |           | Amount |                |    |  |                     |        
|Balance, January 1, 2006                                                                  |  | 30,000          |  | $            |  |                | 7,900,869 |        | $              | 81 |  | $                   | 256,494 |   |                                              | $ | (3,086 | )                    |  | $ | (1,846  | ) |  | $ | (464  | ) |  | $ | 251,179 |  
|Comprehensive income:                                                                     |  |                 |  |              |   |                |           |        |                |    |  |                     |         |   |                                              |   |        |                      |  |   |         |   |  |   |       |   |  |   |         |  
|Unrealized gain on foreign currency translation                                           |  |                |  |              |  |                |          |        |                |   |  |                     |        |   |                                              |   |       |                      |  |   |        |   |  |   | 289   |   |  |   | 289     |  
|Unrealized gain on marketable securities                                                  |  |                |  |              |  |                |          |        |                |   |  |                     |        |   |                                              |   |       |                      |  |   |        |   |  |   | 1,333 |   |  |   | 1,333   |  
|Net income (loss)                                                                         |  |                |  |              |  |                |          |        |                |   |  |                     |        |   |                                              |   |       |                      |  |   | (8,155  | ) |  |   |      |   |  |   | (8,155  | )
|Series C Cumulative Convertible Preferred Stock cash dividends ($7.00 per share per year) |  |                |  |              |  |                |          |        |                |   |  |                     | (157    | ) |                                              |   |       |                      |  |   |        |   |  |   |      |   |  |   | (157    | )
|                                                                                          |  |                 |  |              |   |                |           |        |                |    |  |                     |         |   |                                              |   |        |                      |  |   |         |   |  |   |       |   |  |   |         |  
|Balance, September 30, 2006                                                               |  | 30,000          |  | $            |  |                | 7,900,869 |        | $              | 81 |  | $                   | 256,337 |   |                                              | $ | (3,086 | )                    |  | $ | (10,001 | ) |  | $ | 1,158 |   |  | $ | 244,489 |  
|                                                                                          |  |                 |  |              |   |                |           |        |                |    |  |                     |         |   |                                              |   |        |                      |  |   |         |   |  |   |       |   |  |   |         |  

The accompanying notes are an integral part of these Consolidated Financial Statements.



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)



|                                                                                                  |  |                                         |         |   |      |   |         |  
|------------------------------------------------------------------------------------------------- |  | --------------------------------------- | ------- | - | ---- | - | ------- | -
|                                                                                                  |  | For the Nine Months Ended September 30, |        
|                                                                                                  |  | 2006                                    |         |   | 2005 |  
|                                                                                                  |  | (dollars in thousands)                  |        
|Cash Flows from Operating Activities                                                              |  |                                         |         |   |      |   |         |  
|Reconciliation of net income (loss) to net cash provided by (used in) operating activities        |  |                                         |         |   |      |   |         |  
|Income (loss) from continuing operations                                                          |  | $                                       | (11,083 | ) |      | $ | (10,067 | )
|Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities |  |                                         |         |   |      |   |         |  
|Depreciation and amortization                                                                     |  |                                         | 16,434  |   |      |   | 10,714  |  
|Amortization of deferred borrowing costs                                                          |  |                                         | 2,133   |   |      |   | 2,969   |  
|Provision for asset impairment                                                                    |  |                                         |        |   |      |   | 3,420   |  
|Income tax (benefit) expense                                                                      |  |                                         | (1,577  | ) |      |   | (3,492  | )
|Gain on land sales                                                                                |  |                                         | (11,994 | ) |      |   | (19,780 | )
|Equity in (earnings) losses of investees                                                          |  |                                         | 326     |   |      |   | (1,146  | )
|Gain on foreign currency transaction                                                              |  |                                         | (4      | ) |      |   | (228    | )
|(Income) loss allocated to minority interest                                                      |  |                                         | (544    | ) |      |   | (7      | )
|Decrease (increase) in interest receivable                                                        |  |                                         | 162     |   |      |   | 1,337   |  
|(Increase) decrease in other assets                                                               |  |                                         | 14,207  |   |      |   | (90     | )
|Increase (decrease) in interest payable                                                           |  |                                         | 472     |   |      |   | (292    | )
|Increase (decrease) in other liabilities                                                          |  |                                         | (7,337  | ) |      |   | 6,041   |  
|                                                                                                  |  |                                         |         |   |      |   |         |  
|Net cash provided (used) by operating activities                                                  |  |                                         | 1,195   |   |      |   | (10,621 | )
|                                                                                                  |  |                                        
|Cash Flows from Investing Activities                                                              |  |                                         |         |   |      |   |         |  
|Collections on notes receivable                                                                   |  |                                         | 12,970  |   |      |   | 3,984   |  
|Funding of notes receivable                                                                       |  |                                         | (1,892  | ) |      |   | (3,117  | )
|Acquisition of real estate                                                                        |  |                                         | (86,606 | ) |      |   | (91,639 | )
|Real estate improvements and construction                                                         |  |                                         | (19,400 | ) |      |   | (32,479 | )
|Proceeds from sale of real estate                                                                 |  |                                         | 41,391  |   |      |   | 42,553  |  
|Distributions from equity investees, net                                                          |  |                                         |        |   |      |   | 318     |  
|Deposits on pending purchases and financings                                                      |  |                                         | (7,818  | ) |      |   | (5,154  | )
|                                                                                                  |  |                                         |         |   |      |   |         |  
|Net cash used in investing activities                                                             |  |                                         | (61,355 | ) |      |   | (85,534 | )
|                                                                                                  |  |                                        
|Cash Flows from Financing Activities                                                              |  |                                         |         |   |      |   |         |  
|Payments on notes payable                                                                         |  |                                         | (53,983 | ) |      |   | (51,666 | )
|Proceeds from notes payable                                                                       |  |                                         | 115,606 |   |      |   | 123,085 |  
|Dividends paid to preferred shareholders                                                          |  |                                         | (158    | ) |      |   | (105    | )
|Payments to advisor                                                                               |  |                                         |        |   |      |   | (1,176  | )
|Deferred financing costs                                                                          |  |                                         | (3,661  | ) |      |   | (1,623  | )
|                                                                                                  |  |                                         |         |   |      |   |         |  
|Net cash provided by financing activities                                                         |  |                                         | 57,804  |   |      |   | 68,515  |  
|                                                                                                  |  |                                        
|Discontinued Operations                                                                           |  |                                         |         |   |      |   |         |  
|Cash provided by (used in) operating activities                                                   |  |                                         | (865    | ) |      |   | (2,237  | )
|Cash provided by investing activities  proceeds from sale of real estate                         |  |                                         | 4,617   |   |      |   | 14,314  |  
|                                                                                                  |  |                                         |         |   |      |   |         |  
|Net cash provided (used) by discontinued operations                                               |  |                                         | 3,752   |   |      |   | 12,077  |  
|                                                                                                  |  |                                         |         |   |      |   |         |  
|Net increase (decrease) in cash and cash equivalents                                              |  |                                         | 1,396   |   |      |   | (15,563 | )
|Cash and cash equivalents, beginning of period                                                    |  |                                         | 5,462   |   |      |   | 21,845  |  
|                                                                                                  |  |                                         |         |   |      |   |         |  
|Cash and cash equivalents, end of period                                                          |  | $                                       | 6,858   |   |      | $ | 6,282   |  
|                                                                                                  |  |                                         |         |   |      |   |         |  

The accompanying notes are an integral part of these Consolidated Financial Statements.



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS - Continued

(Unaudited)



|                                                                     |  |                                        |        |      |   |       
|-------------------------------------------------------------------- |  | -------------------------------------- | ------ | ---- | - | ------
|                                                                     |  | For the Nine MonthsEnded September 30,
|                                                                     |  | 2006                                   |        | 2005
|                                                                     |  | (dollars in thousands)                
|Supplemental Disclosures of Cash Flow Information:                   |  |                                        |        |      |   |       
|Cash paid for interest                                               |  | $                                      | 40,726 |      | $ | 30,448
|                                                                     |  |                                       
|Schedule of non cash investing and financing activities:             |  |                                        |        |      |   |       
|Notes payable assumed on purchase of real estate                     |  |                                        | 10,475 |      |   | 13,006
|Increase in minority interest related to acquisition of real estate  |  |                                        | 14,835 |      |   |      
|Notes payable assumed by buyer on sale of real estate                |  |                                        |       |      |   | 738   
|Real estate purchased from affiliate decreasing affiliate receivable |  |                                        | 11,273 |      |   | 1,631 
|Note payable assumed by affiliate                                    |  |                                        | 4,000  |      |   |      
|Note payable assumed to decrease affiliate payable                   |  |                                        | 5,150  |      |   |      
|Land exchange with non-affiliated party                              |  |                                        | 1,500  |      |   |      

The accompanying notes are an integral part of these Consolidated Financial Statements.



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

NOTE 1. BASIS OF PRESENTATION

Transcontinental Realty Investors, Inc. (TCI) is a Nevada corporation and successor to a California business trust, which was organized on September 6,
1983. TCI invests in real estate through direct ownership, leases and partnerships. TCI also invests in mortgage loans on real estate.

The accompanying
condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America for interim financial information and in conjunction with the rules and regulations of the
Securities and Exchange Commission and accordingly, do not include all of the information and footnotes required by generally accepted accounting principles in the United States of America for complete financial statements. In the opinion of
management of TCI, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of TCIs consolidated financial position, consolidated results of operations and consolidated cash flows have been
included. Operating results for the nine-month period ended September 30, 2006, are not necessarily indicative of the results that may be expected for the year ended December 31, 2006.

The consolidated balance sheet at December 31, 2005 has been derived from the audited consolidated financial statements at that date but does not include all of the
information and footnotes required by generally accepted accounting principles in the United States of America for complete financial statements.

These
consolidated financial statements should be read in conjunction with the consolidated financial statements and footnotes thereto in our annual report on Form 10-K for the year ended December 31, 2005. Certain balances for 2005 have been
reclassified to conform to the 2006 presentation.

Operating results for the nine-month period ended September 30, 2006, are not necessarily
indicative of the results that may be expected for the year ending December 31, 2006. For further information, refer to the Consolidated Financial Statements and notes included in TCIs Annual Report on Form 10-K for the year ended
December 31, 2005 (the 2005 Form 10-K).

Beginning March 31, 2003, TCIs financial results were consolidated with and included
in the American Realty Investors, Inc. (ARI) Forms 10-K, 10-Q and related consolidated financial statements. As of September 30, 2006, ARI owned 82.2 percent of the outstanding TCI common shares.

Adoption of New Accounting Standards

SFAS 123-R.
Effective January 1, 2006 (the Effective Date), the Company adopted SFAS No. 123-R using the modified prospective method. SFAS No. 123-R must be applied not only to newly awarded stock options but also to previously
awarded stock options that were not fully vested on the Effective Date. All of TCIs stock option grants were fully vested as of the Effective Date. Furthermore, TCI had no outstanding stock option grants that were modified or settled
after the Effective Date; therefore, TCI will recognize no additional compensation costs for previously awarded stock option grants. In December 2005, the Companys Board of Directors terminated all stock option plans and has no intent at
the present to reinstate any stock option programs.

EITF 06-3.At its June 2006 meeting, the EITF ratified the consensus regarding Issue
No. 06-3 (EITF 06-3),How Taxes Collected from Customers and Remitted to Governmental Authorities Should be Presented in the Income Statement (That is, Gross versus Net Presentation). EITF 06-3 is effective for interim and annual periods
beginning after December 15, 2006, with earlier application permitted. The scope of EITF 06-3 includes any tax assessed by a governmental authority that is both imposed on and concurrent with a specific revenue-producing transaction between a
seller and a customer, and may include, but is not limited to, sales, use, value added, and certain excise taxes. The consensus indicates that gross vs. net income statement classification of those taxes within its scope is an accounting policy
decision. In addition, for taxes within its scope, the consensus requires the following disclosures: the accounting policy elected for these taxes and the amounts of the taxes reflected gross (as revenue) in the income statement on an interim and
annual basis. We do not believe there will be an impact to our financial condition or results of operations from the adoption of EITF 06-3.

FIN 48.On July 13, 2006, the FASB issued Interpretation 48,Accounting for Uncertainty in Income Taxes  an Interpretation of FASB Statement No. 109, (FIN 48), which clarifies the accounting for uncertainty in income taxes
recognized in a companys financial statements in accordance with SFAS No. 109,Accounting for Income Taxes. FIN 48 also prescribes a recognition threshold and measurement attribute for the financial statement recognition
and measurement of a tax position taken or expected to be taken in a tax return. The standard also provides guidance on derecognizing, classification, interest, and penalties, accounting in interim periods, disclosure, and transition. The provisions
of FIN 48 are effective for fiscal years beginning after December 15, 2006, and are to be



9



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

applied to all tax positions upon
initial adoption of this standard. Only tax positions that meet a more-likely-than-not recognition threshold at the effective date may be recognized or continue to be recognized upon adoption of FIN 48. We are currently evaluating the impact, if
any, to our financial condition and results of operations from the adoption of FIN 48.

NOTE 2. REAL ESTATE

In 2006, TCI purchased the following properties:



|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|------------------------- |  | --------------------- |  | ---------------------- |  | ------------- | ------ | --- | ------------------------- | - | ------------- |  | ------------ | ------ |  | ------------- | ---- |  | -----
|Property                  |  | Location              |  | Units / Sq. Ft./ Acres |  | PurchasePrice |        |     | Net Cash Paid/ (Received) |   | Debt Incurred |  | InterestRate |        |  | Maturity Date
|First Quarter             |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Land                      |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Circle C Ranch            |  | Austin, TX            |  | 1,092.0 Acres          |  | $             | 25,569 |     |                           | $ |              |  | $            | 25,569 |  | 8.75          | %(1) |  | 03/08
|Pioneer Crossing          |  | Austin, TX            |  | 38.5 Acres             |  |               | 614    | (2) |                           |   | 614           |  |              | 1,515  |  | 8.75          | (1)  |  | 06/08
|Southwood 1394            |  | Tallahassee, FL       |  | 14.5 Acres             |  |               | 1,150  |     |                           |   | 477           |  |              | 748    |  | 8.50          | (1)  |  | 02/08
|Valley Ranch 20           |  | Farmers Branch, TX    |  | 20.0 Acres             |  |               | 4,673  |     |                           |   | 1,892         |  |              | 3,038  |  | 8.50          | (1)  |  | 02/08
|Woodmont Fairway Office   |  | Dallas, TX            |  | 5.9 Acres              |  |               | 3,833  |     |                           |   | 1,014         |  |              | 3,000  |  | 8.25          | (1)  |  | 01/07
|Woodmont Merit Drive      |  | Dallas, TX            |  | 9.3 Acres              |  |               | 4,560  |     |                           |   | 1,868         |  |              | 2,964  |  | 8.00          |      |  | 03/07
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|                          |  |                       |  |                        |  |               | 40,399 |     |                           |   | 5,865         |  |              | 36,834 |  |               |      |  |      
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Apartments                |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Anderson Estates Apts     |  | Oxford, MS            |  | 48 Units               |  |               | 1,144  | (3) |                           |   | 148           |  |              | 996    |  | 9.50          | (1)  |  | 12/20
|David Jordan Phase II     |  | Greenwood, MS         |  | 32 Units               |  |               | 743    | (3) |                           |   | 98            |  |              | 645    |  | 8.50          | (1)  |  | 04/19
|David Jordan Phase III    |  | Greenwood, MS         |  | 40 Units               |  |               | 812    | (3) |                           |   | 122           |  |              | 690    |  | 8.75          | (1)  |  | 07/22
|Leflore Estates /Curtis   |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Moore Apartments          |  | Greenwood, MS         |  | 104 Units              |  |               | 2,114  | (3) |                           |   | 337           |  |              | 1,777  |  | 7.00          |      |  | 02/22
|Monticello III Estates    |  | Monticello, AR        |  | 32 Units               |  |               | 644    | (3) |                           |   | 96            |  |              | 548    |  | 7.00          |      |  | 01/22
|Riverwalk Phase I         |  | Greenwood, MS         |  | 32 Units               |  |               | 455    | (3) |                           |   | 99            |  |              | 356    |  | 8.50          |      |  | 02/19
|Riverwalk Phase II        |  | Greenwood, MS         |  | 72 Units               |  |               | 1,584  | (3) |                           |   | 226           |  |              | 1,358  |  | 8.25          | (1)  |  | 02/19
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|                          |  |                       |  |                        |  |               | 7,496  |     |                           |   | 1,126         |  |              | 6,370  |  |               |      |  |      
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|                          |  | First Quarter Totals  |  |                        |  |               | 47,895 |     |                           |   | 6,991         |  |              | 43,204 |  |               |      |  |      
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Second Quarter            |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Land                      |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Forney Land               |  | Forney, TX            |  | 34.9 Acres             |  |               | 3,945  |     |                           |   | 3,926         |  |              |       |  |              |      |  |     
|Parc at Clarksville       |  | Clarksville, TN       |  | 10.4 Acres             |  |               | 541    |     |                           |   |              |  |              | 547    |  | 8.00          |      |  | 08/06
|Senlac Hutton             |  | Farmers Branch, TX    |  | 5.9 Acres              |  |               | 1,050  |     |                           |   | 949           |  |              |       |  |              |      |  |     
|Waco 42                   |  | Waco, TX              |  | 42.8 Acres             |  |               | 531    |     |                           |   | 112           |  |              | 398    |  | 8.00          |      |  | 05/09
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|                          |  |                       |  |                        |  |               | 6,067  |     |                           |   | 4,987         |  |              | 945    |  |               |      |  |      
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Office Building           |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|One Hickory               |  | Farmers Branch, TX    |  | 103,000 Sq. Ft.        |  |               | 12,214 | (4) |                           |   |              |  |              |       |  |              |      |  |     
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|                          |  | Second Quarter Totals |  |                        |  |               | 18,281 |     |                           |   | 4,987         |  |              | 945    |  |               |      |  |      
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Third Quarter             |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Crowley Land              |  | Ft Worth, TX          |  | 24.9 Acres             |  |               | 1,500  |     |                           |   | 6             |  |              |       |  |              |      |  |     
|Creekside Land            |  | Ft Worth, TX          |  | 30.0 Acres             |  |               | 2,105  |     |                           |   | 2,097         |  |              |       |  |              |      |  |     
|Waco Swanson              |  | Waco, TX              |  | 319 & 31Acres          |  |               | 2,677  |     |                           |   | 897           |  |              | 1,735  |  | 8.62          | (1)  |  | 9/06 
|Mason Park                |  | Katy, TX              |  | 13.0 Acres             |  |               | 2,225  |     |                           |   |              |  |              |       |  |              |      |  |     
|LaDue/Walker              |  | Farmers Branch, TX    |  | 99.0 Acres             |  |               | 21,500 |     |                           |   |              |  |              | 9,949  |  |              | (5)  |  |     
|Dedeaux Road              |  | Gulfport, MS          |  | 10.0 Acres             |  |               | 1,500  |     |                           |   |              |  |              | 1,520  |  | 13.00         |      |  | 9/07 
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|                          |  |                       |  |                        |  |               | 31,507 |     |                           |   | 3,000         |  |              | 13,204 |  |               |      |  |      
|                          |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|Office Building           |  |                       |  |                        |  |               |        |     |                           |   |               |  |              |        |  |               |      |  |      
|305 Baronne & 217 Rampart |  | New Orleans, LA       |  | 49,000 Sq. Ft.         |  |               | 3,985  |     |                           |   | 3,483         |  |              |       |  |              |      |  |     



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|             |  |                      |  |               |  |        |     |  |       |  |        |  |      |     |  |     
|------------ |  | -------------------- |  | ------------- |  | ------ | --- |  | ----- |  | ------ |  | ---- | --- |  | ----
|Clark Garage |  | New Orleans, LA      |  | 8,000 Sq. Ft. |  | 9,925  | (6) |  | 564   |  | 9,025  |  | 9.25 | (1) |  | 6/07
|             |  |                      |  |               |  |        |     |  |       |  |        |  |      |     |  |     
|             |  |                      |  |               |  | 13,910 |     |  | 4,047 |  | 9,025  |  |      |     |  |     
|             |  |                      |  |               |  |        |     |  |       |  |        |  |      |     |  |     
|             |  | Third Quarter Totals |  |               |  | 45,417 |     |  | 7,047 |  | 22,229 |  |      |     |  |     
|             |  |                      |  |               |  |        |     |  |       |  |        |  |      |     |  |     

---

|(1) | Variable interest rate.
|--- | -----------------------

|(2) | Purchased from ARI; purchase price is equal to ARIs cost.
|--- | ----------------------------------------------------------

|(3) | Net of minority interest and other liabilities assumed.
|--- | -------------------------------------------------------

|(4) | Property received in satisfaction of a note receivable from Income Opportunity Realty Investors, Inc. (IORI.)
|--- | ---------------------------------------------------------------------------------------------------------------

|(5) | Purchased from ARI; purchase price is equal to market value.
|--- | ------------------------------------------------------------

|(6) | The property consists of parking and retail space.
|--- | --------------------------------------------------

In September 2005,
TCI deposited $1.75 million with a seller for the purchase of partnership and member interests in 14 separate apartments and apartment developments located in the Southeast. Each partnership or membership purchase will be closed separately, pending
lender approval and other conditions. TCIs total cash investment can be up to $3.6 million if all interests are purchased. In January 2006, the Company acquired controlling interest in seven of the 14 properties. TCIs investment was
funded from the $1.75 million deposit.

In 2005, TCI purchased the following properties:



|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|----------------------- |  | --------------------- |  | -------------------- |  | -------------- | ------ | ------------------------- | - | ----- | ------------- |  | - | ------------- | --- |  | ------------- | ---- |  | ----- | ---
|Property                |  | Location              |  | Units/ Sq. Ft./Acres |  | Purchase Price |        | Net Cash Paid/ (Received) |   |       | Debt Incurred |  |   | Interest Rate |     |  | Maturity Date |     
|First Quarter           |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Land                    |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Mandahl Bay             |  | US Virgin Islands     |  | 50.8 Acres           |  | $              | 7,000  |                           | $ | 4,101 |               |  | $ | 3,500         |     |  | 7.00          | %(2) |  | 07/05 | (8)
|Mandahl Bay (Gilmore)   |  | US Virgin Islands     |  | 1.0 Acres            |  |                | 96     |                           |   | 104   |               |  |   |              |     |  |              |      |  |      |    
|Mandahl Bay (Chung)     |  | US Virgin Islands     |  | .8 Acres             |  |                | 95     |                           |   | 101   |               |  |   |              |     |  |              |      |  |      |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                | 7,191  |                           |   | 4,306 |               |  |   | 3,500         |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Office Buildings        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Two Hickory(3)          |  | Farmers Branch, TX    |  | 96,000 Sq. Ft.       |  |                | 11,502 |                           |   |      |               |  |   | 7,430         | (1) |  | 4.90          |      |  | 05/06 |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|                        |  | First Quarter Totals  |  |                      |  |                | 18,693 |                           |   | 4,306 |               |  |   | 10,930        |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Second Quarter          |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Land                    |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Alliance Airport        |  | Tarrant County, TX    |  | 12.7 Acres           |  |                | 850    |                           |   | 892   |               |  |   |              |     |  |              |      |  |      |    
|Mandahl Bay (Marina)    |  | US Virgin Islands     |  | 24.0 Acres           |  |                | 2,000  |                           |   | 2,101 |               |  |   |              |     |  |              |      |  |      |    
|Southwood(5)            |  | Tallahassee, FL       |  | 13.0 Acres           |  |                | 525    |                           |   | 555   |               |  |   |              |     |  |              |      |  |      |    
|West End(6)             |  | Dallas, TX            |  | .2 Acres             |  |                | 49     |                           |   | 52    |               |  |   |              |     |  |              |      |  |      |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                | 3,424  |                           |   | 3,600 |               |  | $ | 0             |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Apartments              |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Foxwood(3)              |  | Memphis, TN           |  | 220 Units            |  |                | 6,988  |                           |   |      |               |  |   | 5,609         | (1) |  | 6.54          |      |  | 01/08 |    
|Parc at Metro Center(4) |  | Nashville, TN         |  | 144 Units            |  |                | 817    |                           |   | (378  | )             |  |   | 817           |     |  | 5.65          |      |  | 09/46 |    
|Mission Oaks(4)         |  | San Antonio, TX       |  | 228 Units            |  |                | 573    |                           |   | 573   |               |  |   |              |     |  | 5.30          |      |  | 09/46 |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                | 8,378  |                           |   | 195   |               |  |   | 6,426         |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Office Buildings        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Park West               |  | Farmers Branch, TX    |  | 243,000 Sq. Ft.      |  |                | 10,000 |                           |   | 4,715 |               |  |   | 6,500         |     |  | 7.50          | (2)  |  | 05/06 |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|                        |  | Second Quarter Totals |  |                      |  |                | 21,802 |                           |   | 8,510 |               |  |   | 12,926        |     |  |               |      |  |       |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Third Quarter           |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Land                    |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    
|Luna                    |  | Farmers Branch, TX    |  | 2.6 Acres            |  |                | 250    |                           |   | 257   |               |  |   |              |     |  |              |      |  |      |    
|Mansfield               |  | Mansfield, TX         |  | 21.9 Acres           |  |                | 1,450  |                           |   | 577   |               |  |   | 943           |     |  | 7.50          | (2)  |  | 03/07 |    
|Senlac                  |  | Farmers Branch, TX    |  | 11.9 Acres           |  |                | 625    |                           |   | 643   | (7)           |  |   |              |     |  |              |      |  |      |    
|Whorton                 |  | Benton County, AR     |  | 79.7 Acres           |  |                | 4,332  |                           |   | 702   |               |  |   | 3,828         |     |  | 6.08          |      |  | 01/07 |    
|Wilmer 88               |  | Dallas, TX            |  | 87.6 Acres           |  |                | 638    |                           |   | 668   |               |  |   |              |     |  |              |      |  |      |    
|                        |  |                       |  |                      |  |                |        |                           |   |       |               |  |   |               |     |  |               |      |  |       |    



11



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|                      |  |                      |  |                 |  |        |  |        |  |        |     |  |      |     |  |       |    
|--------------------- |  | -------------------- |  | --------------- |  | ------ |  | ------ |  | ------ | --- |  | ---- | --- |  | ----- | ---
|                      |  |                      |  |                 |  | 7,295  |  | 2,847  |  | 4,771  |     |  |      |     |  |       |    
|                      |  |                      |  |                 |  |        |  |        |  |        |     |  |      |     |  |       |    
|Apartments            |  |                      |  |                 |  |        |  |        |  |        |     |  |      |     |  |       |    
|Legends of El Paso(4) |  | El Paso, TX          |  | 240 Units       |  | 2,247  |  | 464    |  | 1,774  |     |  | 5.50 |     |  | 01/47 |    
|                      |  |                      |  |                 |  |        | 
|Office Buildings      |  |                      |  |                 |  |        |  |        |  |        |     |  |      |     |  |       |    
|600 Las Colinas       |  | Las Colinas, TX      |  | 510,000 Sq. Ft. |  | 56,000 |  | 17,663 |  | 40,487 | (9) |  | 6.16 | (9) |  | 01/13 | (9)
|                      |  |                      |  |                 |  |        |  |        |  |        |     |  |      |     |  |       |    
|                      |  | Third Quarter Totals |  |                 |  | 65,542 |  | 20,974 |  | 47,032 |     |  |      |     |  |       |    
|                      |  |                      |  |                 |  |        |  |        |  |        |     |  |      |     |  |       |    

---

|(1) | Assumed debt.
|--- | -------------

|(2) | Variable rate.
|--- | --------------

|(3) | Property received from ARI for payment of a note receivable. See NOTE 3. NOTES AND INTEREST RECEIVABLE.
|--- | ---------------------------------------------------------------------------------------------------------

|(4) | Initial construction loan funding to purchase land and begin apartment construction. Does not represent actual units purchased.
|--- | -------------------------------------------------------------------------------------------------------------------------------

|(5) | Purchased a 50 percent interest in this land tract.
|--- | ---------------------------------------------------

|(6) | Purchased a 37.5 percent interest in this land tract.
|--- | -----------------------------------------------------

|(7) | Debt was extended to January 2007.
|--- | ----------------------------------

|(8) | Debt was extended to January 2007.
|--- | ----------------------------------

|(9) | Represents two loans on the building. A first lien of $35.3 million at 6.16% that matures in January 2013. A second lien of $5.1 million at 6.16% that matures in January 2013.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In 2006, TCI sold the following properties:



|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|--------------------- |  | --------------------- |  | --------------------- |  | ----------- | ------ | ----------------- | - | --------------- |  | ------------ | ------ |  | - | -----
|Property              |  | Location              |  | Units/ Acres/ Sq. Ft. |  | Sales Price |        | Net Cash Received |   | Debt Discharged |  | Gain on Sale
|First Quarter         |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Land                  |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Hollywood Casino      |  | Farmers Branch, TX    |  | 10.5 Acres            |  | $           | 3,225  |                   | $ | 1,297           |  | $            |       |  | $ | 331  
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  | First Quarter Totals  |  |                       |  |             | 3,225  |                   |   | 1,297           |  |              | 0      |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Second Quarter        |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Apartments            |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Plantation Apartments |  | Tulsa, OK             |  | 138 Units             |  |             | 2,750  |                   |   | 638             |  |              | 2,191  |  |   | 432  
|Willo-Wick Gardens    |  | Pensacola, FL         |  | 152 Units             |  |             | 6,500  |                   |   | 2,806           |  |              | 2,827  |  |   | 2,860
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  |                       |  |                       |  |             | 9,250  |                   |   | 3,444           |  |              | 5,018  |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Land                  |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|McKinney Ranch Land   |  | McKinney, TX          |  | 123.9 Acres           |  |             | 16,591 |                   |   | 6,004           |  |              | 10,051 |  |   | 3,389
|McKinney Ranch Land   |  | McKinney, TX          |  | 44.5 Acres            |  |             | 10,289 |                   |   | 10,031          |  |              |       |  |   | 5,301
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  |                       |  |                       |  |             | 26,880 |                   |   | 16,035          |  |              | 10,051 |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  | Second Quarter Totals |  |                       |  |             | 36,130 |                   |   | 19,479          |  |              | 15,069 |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Third Quarter         |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Land                  |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Addison Park          |  | Addison, TX           |  | 4.9 Acres             |  |             | 3,648  |                   |   | 1,518           |  |              | 1,806  |  |   | 1,129
|Fruitland Land        |  | Fruitland, FL         |  | 4.0 Acres             |  |             | 1,550  |                   |   | 1,462           |  |              |       |  |   | 1,279
|Hollywood Casino      |  | Farmers Branch, TX    |  | 3.4 acres             |  |             | 2,006  |                   |   | 1,087           |  |              | 900    |  |   | 425  
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  |                       |  |                       |  |             | 7,204  |                   |   | 4,067           |  |              | 2,706  |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Apartments            |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|Timbers Apartments    |  | Tyler, TX             |  | 180 Units             |  |             | 3,500  |                   |   |                |  |              | 2,224  |  |   | 1,124
|Apple Lane Apartments |  | Lawrence, KS          |  | 75 Units              |  |             | 2,600  |                   |   | 1,173           |  |              | 1,290  |  |   | 1,273
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  |                       |  |                       |  |             | 6,100  |                   |   | 1,173           |  |              | 3,514  |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      
|                      |  | Third Quarter Totals  |  |                       |  |             | 13,304 |                   |   | 5,240           |  |              | 6,220  |  |   |      
|                      |  |                       |  |                       |  |             |        |                   |   |                 |  |              |        |  |   |      

In 2005, TCI sold the following properties:



12



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|----------------------------- |  | --------------------- |  | --------------------- |  | ----------- | ------ | ----------------- | - | --------------- |  | - | ------------ | --- |  | - | ------ | -
|Property                      |  | Location              |  | Units/ Acres/ Sq. Ft. |  | Sales Price |        | Net Cash Received |   | Debt Discharged |  |   | Gain on Sale |    
|First Quarter                 |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Land                          |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Granbury Station              |  | Fort Worth, TX        |  | 15.7 Acres            |  | $           | 1,003  |                   | $ | 265             |  | $ | 738          | (1) |  | $ | 10     |  
|                              |  |                       |  |                       |  |            
|Office Building               |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Institute Place               |  | Chicago, IL           |  | 145,000 Sq. Ft.       |  |             | 14,460 |                   |   | 4,843           |  |   | 7,792        |     |  |   | 10,061 |  
|                              |  |                       |  |                       |  |            
|Industrial Warehouse          |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|5700 Tulane                   |  | Atlanta, GA           |  | 68,000 Sq. Ft.        |  |             | 816    |                   |   | 738             |  |   |             |     |  |   | 294    |  
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|                              |  | First Quarter Totals  |  |                       |  |             | 16,279 |                   |   | 5,846           |  |   | 8,530        |     |  |   |        |  
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Second Quarter                |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Land                          |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Alamo Springs/Lemmon Carlisle |  | Dallas, TX            |  | 2.8 Acres             |  |             | 7,674  |                   |   | 5,587           |  |   | 1,744        |     |  |   | 2,394  |  
|                              |  |                       |  |                       |  |            
|Office Building               |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|9033 Wilshire                 |  | Los Angeles, CA       |  | 44,000 Sq. Ft.        |  |             | 12,000 |                   |   | 4,366           |  |   | 6,506        |     |  |   | 2,162  |  
|Bay Plaza I                   |  | Tampa, FL             |  | 76,000 Sq. Ft.        |  |             | 4,682  |                   |   | 3,253           |  |   | 961          |     |  |   | 919    |  
|Bay Plaza II                  |  | Tampa, FL             |  | 79,000 Sq. Ft.        |  |             | 4,719  |                   |   | 1,114           |  |   | 3,284        |     |  |   | (199   | )
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|                              |  |                       |  |                       |  |             | 21,401 |                   |   | 8,733           |  |   | 10,751       |     |  |   |        |  
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|                              |  | Second Quarter Totals |  |                       |  |             | 29,075 |                   |   | 14,320          |  |   | 12,495       |     |  |   |        |  
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Third Quarter                 |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Land                          |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|Round Mountain(2)             |  | Lakeway, TX           |  | 10 Acres              |  |             | 1,500  |                   |   | 251             |  |   |             |     |  |   | 1,073  |  
|West End                      |  | Dallas, TX            |  | .8 Acres              |  |             | 2,259  |                   |   | 2,099           |  |   |             |     |  |   | 1,259  |  
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  
|                              |  | Third Quarter Totals  |  |                       |  |             | 3,759  |                   |   | 2,350           |  |   | 0            |     |  |   |        |  
|                              |  |                       |  |                       |  |             |        |                   |   |                 |  |   |              |     |  |   |        |  

---

|(1) | Assumed debt.
|--- | -------------

|(2) | TCI provided $1.1 million of seller financing.
|--- | ----------------------------------------------

At September 30,
2006, TCI had the following properties under construction:



|                     |  |                    |  |             |  |                 |        |                             |   |                           |  |   |        
|-------------------- |  | ------------------ |  | ----------- |  | --------------- | ------ | --------------------------- | - | ------------------------- |  | - | -------
|Property             |  | Location           |  | Units       |  | Amount Expended |        | Additional Amount to Expend |   | Construction Loan Funding
|Laguna Vista         |  | Farmers Branch, TX |  | 206 Units   |  | $               | 9,766  |                             | $ | 11,339                    |  | $ | 17,741 
|Legends of El Paso   |  | El Paso, TX        |  | 240 Units   |  |                 | 6,258  |                             |   | 11,826                    |  |   | 16,040 
|Mission Oaks         |  | San Antonio, TX    |  | 228 Units   |  |                 | 14,260 |                             |   | 3,210                     |  |   | 15,636 
|Parc at Maumelle     |  | Maumelle, AR       |  | 240 Units   |  |                 | 12,446 |                             |   | 6,252                     |  |   | 16,829 
|Parc at Metro Center |  | Nashville, TN      |  | 144 Units   |  |                 | 4,448  |                             |   | 8,166                     |  |   | 11,141 
|Parc at Rogers       |  | Rogers, AR         |  | 152 Units   |  |                 | 801    |                             |   | 23,437                    |  |   | 20,825 
|Parc at Clarksville  |  | Clarksville, TN    |  | 206 Units   |  |                 | 640    |                             |   | 14,120                    |  |   | 13,651 
|Pecan Pointe         |  | Temple, TX         |  | 232 Units   |  |                 | 1,928  |                             |   | 16,395                    |  |   | 14,051 
|Lago Vista           |  | Farmers Branch, TX |  | 212 Units   |  |                 | 2,232  |                             |   | 24,218                    |  |   | 21,160 
|                     |  |                    |  |             |  |                 |        |                             |   |                           |  |   |        
|                     |  |                    |  | 1,860 Units |  | $               | 52,779 |                             | $ | 118,963                   |  | $ | 147,874
|                     |  |                    |  |             |  |                 |        |                             |   |                           |  |   |        

NOTE 3. NOTES AND INTEREST RECEIVABLE

Notes and interest receivable at September 30, 2006 consisted of the following:



|         |  |               |  |               |  |        |  |         
|-------- |  | ------------- |  | ------------- |  | ------ |  | --------
|Borrower |  | Maturity Date |  | Interest Rate |  | Amount |  | Security



13



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##### Table of Contents

TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|                                   |  |          |  |            |   |  |   |        |  |                                           
|---------------------------------- |  | -------- |  | ---------- | - |  | - | ------ |  | ------------------------------------------
|Performing loans:                  |  |          |  |            |   |  |   |        |  |                                           
|Edina Park Plaza Associates, LP(1) |  | Sep-2017 |  | 7.63       | % |  | $ | 14,519 |  | Office building, Durham, NC               
|Dallas Fund XVII LP                |  | Oct-2006 |  | 9.00       |   |  |   | 3,007  |  | Partnership interests and lawsuit proceeds
|Edina Park Plaza Associates, LP(1) |  | Sep-2017 |  | 7.63       |   |  |   | 3,297  |  | Office building, Durham, NC               
|Pioneer Austin Development         |  | Oct-2008 |  | 10.00      |   |  |   | 2,889  |  | 33 acres undeveloped land, Austin, TX     
|Countryside LP                     |  | Jan-2007 |  | 7.25       |   |  |   | 2,300  |  | Class A LP units                          
|Basic Capital Management(1)        |  | Apr-2008 |  | Prime+2.00 |   |  |   | 1,523  |  | Retail building, Cary, NC                 
|Garden Centura LP                  |  | N/A      |  | 7.00       |   |  |   | 3,553  |  | Excess cash flow from partnership         
|Woodmont Group III and IV(1)       |  | Feb-2007 |  | 10.00      |   |  |   | 2,524  |  | Undeveloped land in Dallas, TX (2 tracts) 
|Basic Capital Management           |  | Apr-2008 |  | Prime+2.00 |   |  |   | 1,252  |  | Industrial building, Arlington, TX        
|Miscellaneous related party notes  |  | Various  |  | Various    |   |  |   | 1,400  |  | Various security interests                
|Accrued interest                   |  |          |  |            |   |  |   | 585    |  |                                           
|                                   |  |          |  |            |   |  |   |        |  |                                           
|Total performing loans             |  |          |  |            |   |  |   | 36,849 |  |                                           
|                                   |  |          |  |           
|Non-performing loans:              |  |          |  |            |   |  |   |        |  |                                           
|400 St. Paul                       |  | Jul-2006 |  | 8.00       |   |  |   | 4,896  |  | Office building, Dallas, TX               
|                                   |  |          |  |            |   |  |   |        |  |                                           
|Total                              |  |          |  |            |   |  | $ | 41,745 |  |                                           
|                                   |  |          |  |            |   |  |   |        |  |                                           

---

(1)Related party.

In March 2006,
TCI sold 10.5 acres of undeveloped land in Dallas, Texas for $3.2 million, financing $1.5 million of the sales price in the form of a demand note bearing interest at the rate of ten percent per annum. In July 2006, the $1.5 million note was
satisfied in full in exchange for 24.9 acres of undeveloped land in Crowley, Texas.

In March 2005, TCI entered into an agreement to advance a third party
$3.2 million for development costs relating to single-family residential lots in Austin, Texas. These advances are secured by stock in the borrower and hold a second lien on the undeveloped land. The secured note bears interest at 10 percent,
requires semi-annual payments, and matures in March 2008. In September 2005, the total amount authorized under this advance was increased to $5.0 million. As of March 31, 2006, TCI had advanced $3.2 million to the borrower. TCI also guaranteed
an $18 million loan secured by a first lien on the undeveloped land. In September 2005, TCI purchased for $4.1 million a subsidiary of Tacco Universal, a related party that holds two notes receivable from the borrower for $3.0 and $1.0 million,
respectively. These notes are secured by approximately 142 acres of undeveloped land and membership interest in the borrower. These secured notes bear interest at 12 percent, have an interest reserve for payments that is added to the principal
balance on a monthly basis, and matured in June 2005. Both loans were extended to September 2005 and upon maturity were paid under the advance referred to at the beginning of this paragraph. In March 2006, TCI acquired all of the interests in the
borrower, including ownership of the Austin, Texas land. The land is secured by the $18 million first mortgage and a $3 million subordinated loan. In March 2006, TCI secured a development loan of $31.3 million (secured by the Austin, Texas land), of
which $18 million was used to pay the existing first mortgage. The development loan matures in March 2008 and bears interest at Prime + one percent. The Company intends to develop the land for sale to single-family residential builders.

In December 2004, TCI sold the Centura Tower office building located in Dallas, Texas to Garden Centura LP and retained a one percent non-controlling
general partner interest and a four percent limited partner interest. TCI has certain obligations to loan the buyer funds for rent abatements, tenant improvements, leasing commissions and other cash requirements. Through September 30,
2006, TCI has funded $3.6 million of these obligations and has recorded a note receivable from the partnership. This note bears interest at a fixed rate of seven percent per annum. The note will be paid out of excess cash flow or from
sales proceeds, but only after certain partner preferred returns are paid.

In December 2003, TCI purchased from ARI a note receivable secured by a second
lien on 33 acres of undeveloped land located in Austin, Texas. TCI acquired the loan from ARI for $2.4 million in satisfaction of certain loans made by TCI to ARI. The loan bears interest at the rate of ten percent per annum. Monthly interest only
payments are required beginning in November 2007. The loan matures in October 2008.

In July 2003, TCI advanced $2.3 million to the Class A Limited
Partners of TCI Countryside LP of which TCI is the general partner. The loan bears interest at the rate of 7.25 percent per annum and matures in January 2007. TCI also agreed to advance $1.1 million to the Class A Limited Partners by advancing
$105,000 in July 2003 and every year thereafter for ten years. This loan bears interest at 7.25 percent and matures in July 2012. As of September 2005, TCI had advanced $315,000. In October 2005, TCI agreed to settle the



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

remaining obligations under this loan
by paying a lump sum of $425,000, making the total advanced $740,000. After January 2007, TCI may retire the Class A Limited Partners interest in exchange for cancellation of the note.

In March 2002, TCI sold the 174,513 Sq. Ft. Hartford Office Building located at 400 St. Paul in Dallas, Texas, for $4.0 million and provided $4.0 million in seller
financing plus an additional $1.4 million line of credit for leasehold improvements all in the form of a first lien mortgage note. The note bears interest at a variable interest rate, requires monthly interest only payments, and matures in
March 2007. As of September 2005, TCI funded $896,000 of the additional line of credit. TCI determined during the third quarter 2005 to classify this note as non-performing. Effective January 1, 2006, TCI no longer accrues interest income
on this note. TCI has made no additional advances on this loan nor have any additional payments been received. This loan is not considered impaired due to the fair value of the collateral being sufficient to cover the current loan balance
and accrued interest at June 30, 2006.

In August 2001, TCI agreed to loan Dallas Fund XVII LP up to $5.6 million secured by a second lien on an
office building in Dallas, Texas. The note receivable initially had a variable interest rate, required monthly interest payments and originally matured in January 2003. TCI funded a total of $4.3 million on this note. In January 2003,
TCI agreed to extend the maturity date to May 2003. The collateral used to secure TCIs second lien was subsequently seized by the first lien holder. In March 2004, TCI agreed to accept an assignment of claims in litigation as
additional security for the note. TCI later agreed to a modification agreement with the borrower effective November 2003. As of the modified effective date, accrued interest of $582,000 was added to the principal balance of the note; the
interest rate was fixed at nine percent per annum with all principal and interest due November 2005. TCI also received certain pledge and security agreements in various partnership interests belonging to the borrower and received various
assignments of proceeds from asset sales in certain entities owned by the borrower. TCI reduced accrued interest and principal by $1.5 million from the receipt of notes receivable assigned to TCI by the borrower and by $605,000 from cash
received. TCI also received $1.4 million in January 2005 that was applied to accrued interest and principal effective December 30, 2004. TCI received $1.4 million in September 2006 that was applied to accrued interest and principal.
Through September 30, 2006, TCI has advanced an additional $2.73 million to the borrower.

Related Party Transactions.In August 2005, TCI sold
8.8 acres in Dallas, Texas known as the Centura Land to IORI for $6.7 million. For a period of one year following closing and 90 days thereafter, IORI has the right to convey the land to TCI for the original sales price, plus a 12
percent preferred return per annum accruing from the closing date. This transaction has been treated as a financing by TCI, with a note payable of $6.7 million recorded. TCI and IORI are in the process of extending IORIs right to convey the
land to TCI for an additional 12-month period.

In October 2004, TCI sold the Durham Centre in Durham, North Carolina to Edina Park Plaza Associates, LP, a
limited partnership in which the managing general partner is a subsidiary of ARI, for $21.3 million cash plus an all-inclusive wrap-around note of $14.5 million. The note bears interest at a fixed rate of 7.63 percent, requires monthly interest
payments, and matures in September 2007. TCI also made a loan to the partnership for $3.3 million. The note bears interest at a fixed rate of 7.63 percent, requires monthly interest payments, and matures in September 2017.

In March 2004, TCI sold a K-Mart in Cary, North Carolina to Basic Capital Management (BCM) for $3.2 million, including the assumption of debt. TCI also
provided $1.5 million of the purchase price as seller financing. The unsecured note bears interest at the prime rate plus two percent and matures in April 2008.

In March 2004, TCI sold the Texstar Warehouse in Arlington, Texas to BCM for $2.4 million, including the assumption of debt. TCI also provided $1.3 million of the purchase price as seller financing. The unsecured
note bears interest at the prime rate plus two percent and matures in April 2008.

NOTE 4. INVESTMENT IN UNCONSOLIDATED REAL ESTATE ENTITIES

Unconsolidated real estate entities. TCIs investment in unconsolidated real estate entities at September 30, 2006 included equity
securities of two publicly traded real estate entities, IORI and ARI, related parties, and interests in real estate joint venture partnerships. ARI is a related party that owns 82.2 percent of TCIs common stock and consolidates TCIs
financial accounts and operations.

TCI accounts for its investment in IORI and ARI and the joint venture partnerships using the equity method. Garden
Centura, L.P. is accounted for on the cost method.

TCIs investment in real estate entities at September 30,
2006, was as follows:



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|                     |  |                                                   |   |  |                                                  |        |                                                   |   |      
|-------------------- |  | ------------------------------------------------- | - |  | ------------------------------------------------ | ------ | ------------------------------------------------- | - | -----
|Investee             |  | Percentage of TCIsOwnership atSeptember 30, 2006 |   |  | Carrying Value ofInvestment atSeptember 30, 2006 |        | Market Value(a)of Investment atSeptember 30, 2006
|IORI                 |  | 24.9                                              | % |  | $                                                | 6,319  |                                                   | $ | 7,260
|ARI                  |  | 6.4                                               | % |  |                                                  | 11,583 |                                                   |   | 6,132
|Garden Centura, L.P. |  | 5.0                                               | % |  |                                                  | 1,925  |                                                   |   |      
|                     |  |                                                   |   |  |                                                  |        |                                                   |   |      
|                     |  |                                                   |   |  |                                                  | 19,827 |                                                   |   |      
|Other                |  |                                                   |   |  |                                                  | 4,508  |                                                   |   |      
|                     |  |                                                   |   |  |                                                  |        |                                                   |   |      
|                     |  |                                                   |   |  | $                                                | 24,335 |                                                   |   |      
|                     |  |                                                   |   |  |                                                  |        |                                                   |   |      

---

|(a) | Based on stock closing price on September 29, 2006 and is not necessarily indicative of the fair market value of the investees net assets.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------

Set forth below is summarized results of operations of equity investees for the first nine months of 2006
and 2005.



|                                                                              |  |      |         |   |      |   |         |  
|----------------------------------------------------------------------------- |  | ---- | ------- | - | ---- | - | ------- | -
|                                                                              |  | 2006 |         |   | 2005 |  
|Revenues                                                                      |  | $    | 98,439  |   |      | $ | 115,772 |  
|Equity in earnings of investees                                               |  |      | 110     |   |      |   | (45     | )
|Property operating expenses                                                   |  |      | (76,160 | ) |      |   | (76,943 | )
|Depreciation                                                                  |  |      | (7,728  | ) |      |   | (5,981  | )
|Interest expense                                                              |  |      | (25,538 | ) |      |   | (20,794 | )
|                                                                              |  |      |         |   |      |   |         |  
|Income (loss) before gains on sale of real estate and discontinued operations |  |      | (10,877 | ) |      |   | 12,009  |  
|Gain on sale of real estate                                                   |  |      | 4,799   |   |      |   | 21,817  |  
|Income (loss) from discontinued operations                                    |  |      |        |   |      |   |        |  
|                                                                              |  |      |         |   |      |   |         |  
|Net income (loss)                                                             |  | $    | (6,078  | ) |      | $ | 33,826  |  
|                                                                              |  |      |         |   |      |   |         |  

NOTE 5. MARKETABLE EQUITY SECURITIES

TCI owns equity securities of Realty Korea CR-REIT Co., Ltd. No. 1 representing approximately a 9.2 percent ownership interest. This investment is considered an available-for-sale security. Due to increases in
market price, TCI recognized an unrealized gain of $470,000 and $1.3 million for the three and nine month periods ending September 30, 2006, respectively.

NOTE 6. RELATED PARTIES

Cash advances either to or from TCI, through its advisor, Prime Income Asset Management LLC
(Prime) are unsecured, generally do not have specific repayment terms and have been reflected in TCIs financial statements as other assets or other liabilities. Effective July 1, 2005, TCI and Prime agreed to charge interest
on the outstanding balance of funds advanced to or from TCI. The interest rate, set at the beginning of each quarter, is the prime rate plus one percent on the average daily cash balances advanced.

The following table reconciles the beginning and ending amounts due from (to) Prime from TCI as of September 30, 2006.



|                                       |  |       |         |   |      |   |  
|-------------------------------------- |  | ----- | ------- | - | ---- | - | -
|                                       |  | PRIME |         |   | IORI
|Balance, December 31, 2005             |  | $     | (11,668 | ) |      | $ | 
|Cash transfers                         |  |       | 57,161  |   |      |   | 
|Cash repayments                        |  |       | (58,063 | ) |      |   | 
|Repayments through property transfers  |  |       | (12,538 | ) |      |   | 
|Fees payable to affiliate              |  |       | (10,946 | ) |      |   | 
|Insurance proceeds received by advisor |  |       | 11,272  |   |      |   | 
|Payables clearing through Prime        |  |       | (831    | ) |      |   | 
|Advances to operating account, net     |  |       | (1,433  | ) |      |   |  
|                                       |  |       |         |   |      |   |  
|Balance, September 30, 2006            |  | $     | (27,046 | ) |      | $ | 
|                                       |  |       |         |   |      |   |  

In August 2005, TCI conveyed ownership in 8.8 acres of undeveloped land in Farmers Branch, Texas to IORI for $6.7
million. For a period of one year following closing and 90 days thereafter, IORI has the right (but not the obligation) to transfer ownership back to



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

TCI for the original sales price, plus
a 12 percent preferred return per annum accruing from the closing date. This transaction has been treated as a financing by TCI, with a note payable of $6.7 million recorded.

At September 30, 2006, TCIs other assets includes $1.2 million due from Garden Centura LP for advances made to fund certain tenant concessions. In addition, at September 30, 2006, TCI owed $619,000 to
Regis Property Management for management fees and sales commissions.

TCI leases office space to Prime at the companys office at the One Hickory
office building. The, lease originally entered into with the buildings previous owner in October 2003, was for 59,115 sq. ft. (approximately 59.0% of the building), had a term of three years, and provided for annual base rent of $1.3 million,
or $21.50 per sq. ft. Effective May 1, 2004, the lease was amended to 54,404 sq. ft. (approximately 56% of the building), with an annual base rent of $1.2 million, or $21.50 per sq. ft. In November 2005, the lease was amended to 48,151 square
feet (approximately 49% of the building), with an annual base rent of $1.0 million, or $21.50 per square foot. TCI assumed the rights and obligations of the lease in connection with the purchase of the building in May 2006.

NOTE 7. LOANS AND INTEREST PAYABLE

In August 2006, a TCI
subsidiary and IORI, as co-borrowers, obtained a loan commitment of up to $42.6 million from Metropolitan National Bank. The loan matures in August 2008 and bears interest at the rate of 8.6 percent per annum. The loan requires quarterly
interest payments beginning in October 2006. The loan is secured by a) approximately 99 acres of land located in Dallas, Texas and owned by the TCI subsidiary (which the TCI subsidiary purchased from ARI in August 2006) and b) 202 acres of land
located in Dallas, Texas, which is owned by IORI. The loan is also guaranteed by TCI. Proceeds of the new loan will be used to retire the existing debt on the collateral and to fund additional investments for TCI and IORI.

In 2006, TCI refinanced the following properties:



|                      |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|--------------------- |  | ------------------ |  | --------------------------- |  | ------------ | ----- | --------------- | - | ----------------- |  | ------------ | ----- |  | ------------ | ---- |  | -----
|Property              |  | Location           |  | Sq. Ft./Units/ Rooms/ Acres |  | DebtIncurred |       | Debt Discharged |   | Net Cash Received |  | InterestRate |       |  | MaturityDate
|Apartments            |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|First Quarter         |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Hunters Glen          |  | Midland, TX        |  | 212 Units                   |  | $            | 2,475 |                 | $ | 1,804             |  | $            | 421   |  | 7.23         | %(1) |  | 02/09
|                      |  |                    |  |                             |  |              |      
|Land                  |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|West End              |  | Dallas, TX         |  | 5.3 Acres                   |  |              | 9,000 |                 |   | 2,000             |  |              | 6,079 |  | 8.00         | (1)  |  | 03/07
|                      |  |                    |  |                             |  |              |      
|Second Quarter        |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Land                  |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Payne Land            |  | Las Colinas, TX    |  | 109.9 Acres                 |  |              | 5,683 |                 |   |                  |  |              | 5,591 |  | 9.00         |      |  | 12/07
|                      |  |                    |  |                             |  |              |      
|One Hickory           |  | Farmers Branch, TX |  | 103,000 Sq. Ft.             |  |              | 9,300 |                 |   | 6,858             |  |              | 2,308 |  | 6.93         |      |  | 06/10
|Forum Office Building |  | Richmond, VA       |  | 78,000 Sq. Ft.              |  |              | 6,000 |                 |   | 4,721             |  |              | 1,152 |  | 7.75         |      |  | 07/13
|                      |  |                    |  |                             |  |              |      
|Third Quarter         |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Office Buildings      |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Two Hickory           |  | Farmers Branch, TX |  | 96,000 Sq. Ft.              |  |              | 9,500 |                 |   | 7,257             |  |              | 74    |  | 7.03         |      |  | 09/11

---

|(1) | Variable rate.
|--- | --------------



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

In
2005, TCI refinanced the following properties:



|                     |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|-------------------- |  | ------------------ |  | --------------------------- |  | ------------ | ----- | --------------- | - | ----------------- |  | ------------ | ----- |  | ------------ | ---- |  | -----
|Property             |  | Location           |  | Sq. Ft./Units/ Rooms/ Acres |  | DebtIncurred |       | Debt Discharged |   | Net Cash Received |  | InterestRate |       |  | MaturityDate
|First Quarter        |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Office Buildings     |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Bridgeview Plaza     |  | LaCrosse, WI       |  | 116,000 Sq. Ft.             |  | $            | 7,197 |                 | $ | 6,304             |  | $            | 649   |  | 7.25         | %(1) |  | 03/10
|                     |  |                    |  |                             |  |              |      
|Shopping Centers     |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Dunes Plaza          |  | Michigan City, IN  |  | 224,000 Sq. Ft.             |  |              | 3,750 |                 |   | 2,685             |  |              | 658   |  | 7.50         | (1)  |  | 01/10
|                     |  |                    |  |                             |  |              |      
|Second Quarter       |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Apartments           |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Autumn Chase         |  | Midland, TX        |  | 64 Units                    |  |              | 1,166 |                 |   | 797               |  |              | 317   |  | 5.88         | (1)  |  | 05/35
|Courtyard            |  | Midland, TX        |  | 133 Units                   |  |              | 1,342 |                 |   | 966               |  |              | 266   |  | 5.88         | (1)  |  | 05/35
|Southgate            |  | Odessa, TX         |  | 180 Units                   |  |              | 1,879 |                 |   | 1,712             |  |              | 61    |  | 5.88         | (1)  |  | 05/35
|                     |  |                    |  |                             |  |              |      
|Hotel                |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|The Majestic         |  | Chicago, IL        |  | 55 Rooms                    |  |              | 3,225 |                 |   |                  |  |              | 3,066 |  | 6.40         |      |  | 06/10
|                     |  |                    |  |                             |  |              |      
|Third Quarter        |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Land                 |  |                    |  |                             |  |              |       |                 |   |                   |  |              |       |  |              |      |  |      
|Alliance Airport(2)  |  | Tarrant County, TX |  | 12.7 Acres                  |  |              | 553   |                 |   |                  |  |              | 540   |  | 7.25         | (1)  |  | 01/07
|Centura(3)           |  | Farmers Branch, TX |  | 8.8 Acres                   |  |              | 6,727 |                 |   |                  |  |              | 6,727 |  | 8.50         | (1)  |  | 08/07
|DeSoto Ranch(2)      |  | DeSoto, TX         |  | 21.9 Acres                  |  |              | 1,635 |                 |   | 1,271             |  |              | 336   |  | 7.25         | (1)  |  | 01/07
|Sheffield Village(2) |  | Grand Prairie, TX  |  | 13.9 Acres                  |  |              | 975   |                 |   | 975               |  |              | 94    |  | 7.75         | (1)  |  | 03/07
|West End(2)          |  | Dallas, TX         |  | 6.3 Acres                   |  |              | 2,000 |                 |   |                  |  |              | 1,951 |  | 7.25         | (1)  |  | 01/07

---

|(1) | Variable rate.
|--- | --------------

|(2) | Drawn on the $10 million line of credit for land acquisition and financing.
|--- | ---------------------------------------------------------------------------

|(3) | IORI purchased the Centura Land for $6.7 million.
|--- | -------------------------------------------------

NOTE 8.
OPERATING SEGMENT

Significant differences among the accounting policies of the operating segments as compared to the Consolidated Financial Statements
principally involve the calculation and allocation of administrative expenses. Management evaluates the performance of each of the operating segments and allocates resources to them based on their operating income and cash flow. Excluded from
segment assets are assets of $111.1 million at September 30, 2006, and $134.3 million at September 30, 2005, which are not identifiable with an operating segment. There are no intersegment revenues and expenses and TCI conducted all of its
business within the United States, with the exception of Hotel Akademia, a 161-room hotel in Wroclaw, Poland, which began operations in 2002.

Presented
below is the operating income of each operating segment for the three and nine months ended September 30, 2006 and 2005, and each segments assets at September 30.



|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |   |           |  
|--------------------------------------------- |  | ---- | ------- | - | --------------------- | - | ------- | ---------- |  | - | ------- | - |  | ----- | ------ | - |  | - | --------- | -
|For the Three Months Ended September 30, 2006 |  | Land |         |   | Commercial Properties |   |         | Apartments |  |   | Hotels  |   |  | Total |       
|Rents                                         |  | $    | 635     |   |                       | $ | 10,237  |            |  | $ | 20,080  |   |  | $     | 2,682  |   |  | $ | 33,634    |  
|Property operating expenses                   |  |      | 828     |   |                       |   | 6,253   |            |  |   | 11,868  |   |  |       | 1,695  |   |  |   | 20,644    |  
|Depreciation                                  |  |      | 2       |   |                       |   | 2,199   |            |  |   | 2,587   |   |  |       | 1,033  |   |  |   | 5,821     |  
|Interest                                      |  |      | 3,035   |   |                       |   | 2,152   |            |  |   | 7,504   |   |  |       | 448    |   |  |   | 13,139    |  
|Gain on land sales                            |  |      | 2,974   |   |                       |   |        |            |  |   |        |   |  |       |       |   |  |   | 2,974     |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |   |           |  
|Segment income (loss)                         |  | $    | (256    | ) |                       | $ | (367    | )          |  | $ | (1,879  | ) |  | $     | (494   | ) |  | $ | (2,996    | )
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |   |           |  
|Real estate improvements and construction     |  |      | 1,644   |   |                       |   | 4,045   |            |  |   | 2,651   |   |  |       | 37     |   |  |   | 8,377     |  
|Assets                                        |  |      | 264,349 |   |                       |   | 210,705 |            |  |   | 534,506 |   |  |       | 27,987 |   |  |   | 1,037,547 |  



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|--------------------------------------------- |  | ---- | ------- | - | --------------------- | - | ------- | ---------- |  | - | ------- | - |  | ----- | ------ | - |  | -- | --------- | -
|Property Sales:                               |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Sales price                                   |  | $    | 7,204   |   |                       | $ |        |            |  | $ | 6,100   |   |  | $     |       |   |  | $  | 13,304    |  
|Cost of sales                                 |  |      | 4,230   |   |                       |   |        |            |  |   | 3,704   |   |  |       |       |   |  |    | 7,934     |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Gain on sale                                  |  | $    | 2,974   |   |                       | $ |        |            |  | $ | 2,396   |   |  | $     |       |   |  | $  | 5,370     |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|                                              |  |      |         |   |                      
|For the Three Months Ended September 30, 2005 |  | Land |         |   | Commercial Properties |   |         | Apartments |  |   | Hotels  |   |  | Total |       
|Rents                                         |  | $    | 125     |   |                       | $ | 7,355   |            |  | $ | 16,930  |   |  | $     | 2,758  |   |  | $  | 27,168    |  
|Property operating expenses                   |  |      | 770     |   |                       |   | 4,296   |            |  |   | 10,468  |   |  |       | 1,337  |   |  |    | 16,871    |  
|Depreciation                                  |  |      | 2       |   |                       |   | 484     |            |  |   | 2,086   |   |  |       | 494    |   |  |    | 3,066     |  
|Interest                                      |  |      | 1,293   |   |                       |   | 2,156   |            |  |   | 6,504   |   |  |       | 220    |   |  |    | 10,173    |  
|Gain on land sales                            |  |      | 2,332   |   |                       |   |        |            |  |   |        |   |  |       |       |   |  |    | 2,332     |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Segment income (loss)                         |  | $    | 392     |   |                       | $ | 419     |            |  | $ | (2,128  | ) |  | $     | 707    |   |  | $  | (611      | )
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Real estate improvements and construction     |  |      | 275     |   |                       |   | 711     |            |  |   | 8,011   |   |  |       | 8      |   |  |    | 9,005     |  
|Assets                                        |  |      | 144,206 |   |                       |   | 189,052 |            |  |   | 507,448 |   |  |       | 33,238 |   |  |    | 873,944   |  
|                                              |  |      |         |   |                      
|Property Sales:                               |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Sales price                                   |  | $    | 3,759   |   |                       |   |        |            |  |   |        |   |  | $     |       |   |  | $  | 3,759     |  
|Cost of sales                                 |  |      | 1,427   |   |                       |   |        |            |  |   |        |   |  |       |       |   |  |    | 1,427     |  
|Recognition of previously deferred gains      |  |      |        |   |                       |   |        |            |  |   | 494     |   |  |       |       |   |  |    | 494       |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Gain on sale                                  |  | $    | 2,332   |   |                       | $ |        |            |  | $ | 494     |   |  | $     |       |   |  | $  | 2,826     |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|                                              |  |      |         |   |                      
|For the Nine Months Ended September 30, 2006  |  | Land |         |   | Commercial Properties |   |         | Apartments |  |   | Hotels  |   |  | Total |       
|Rents                                         |  | $    | 936     |   |                       | $ | 28,547  |            |  | $ | 57,999  |   |  | $     | 6,223  |   |  | $  | 93,705    |  
|Property operating expenses                   |  |      | 1,550   |   |                       |   | 16,774  |            |  |   | 34,285  |   |  |       | 4,200  |   |  |    | 56,809    |  
|Depreciation                                  |  |      | 5       |   |                       |   | 6,830   |            |  |   | 7,992   |   |  |       | 1,607  |   |  |    | 16,434    |  
|Interest                                      |  |      | 7,990   |   |                       |   | 7,748   |            |  |   | 21,672  |   |  |       | 1,218  |   |  |    | 38,628    |  
|Gain on land sales                            |  |      | 11,995  |   |                       |   |        |            |  |   |         |   |  |       |       |   |  |    | 11,995    |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Segment income (loss)                         |  |      | 3,386   |   |                       |   | (2,805  | )          |  |   | (5,950  | ) |  |       | (802   | ) |  | ($ | 6,171     | )
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Real estate improvements and construction     |  |      | 2,787   |   |                       |   | 8,836   |            |  |   | 7,176   |   |  |       | 601    |   |  |    | 19,400    |  
|Assets                                        |  |      | 264,349 |   |                       |   | 210,705 |            |  |   | 534,506 |   |  |       | 27,987 |   |  |    | 1,037,547 |  
|                                              |  |      |         |   |                      
|Property Sales:                               |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Sales price                                   |  | $    | 37,309  |   |                       | $ |        |            |  | $ | 15,350  |   |  | $     |       |   |  | $  | 52,659    |  
|Cost of sales                                 |  |      | 25,314  |   |                       |   |        |            |  |   | 9,661   |   |  |       |       |   |  |    | 34,975    |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Gain on sale                                  |  | $    | 11,995  |   |                       | $ |        |            |  | $ | 5,689   |   |  | $     |       |   |  | $  | 17,684    |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|                                              |  |      |         |   |                      
|For the Nine Months Ended September 30, 2005  |  | Land |         |   | Commercial Properties |   |         | Apartments |  |   | Hotels  |   |  | Total |       
|Rents                                         |  | $    | 407     |   |                       | $ | 18,641  |            |  | $ | 47,524  |   |  | $     | 6,997  |   |  | $  | 73,569    |  
|Property operating expenses                   |  |      | 2,139   |   |                       |   | 11,457  |            |  |   | 28,654  |   |  |       | 3,850  |   |  |    | 46,100    |  
|Depreciation                                  |  |      | (1      | ) |                       |   | 4,023   |            |  |   | 5,838   |   |  |       | 854    |   |  |    | 10,714    |  
|Interest                                      |  |      | 3,662   |   |                       |   | 4,806   |            |  |   | 18,182  |   |  |       | 1,163  |   |  |    | 27,813    |  
|Gain on land sales                            |  |      | 4,735   |   |                       |   |        |            |  |   |        |   |  |       |       |   |  |    | 4,735     |  
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Segment income (loss)                         |  | $    | (658    | ) |                       | $ | (1,645  | )          |  | $ | (5,150  | ) |  | $     | 1,130  |   |  | $  | (6,323    | )
|                                              |  |      |         |   |                       |   |         |            |  |   |         |   |  |       |        |   |  |    |           |  
|Real estate improvements and construction     |  |      | 423     |   |                       |   | 1,756   |            |  |   | 21,832  |   |  |       | 18     |   |  |    | 24,029    |  
|Assets                                        |  |      | 144,206 |   |                       |   | 189,052 |            |  |   | 507,448 |   |  |       | 33,238 |   |  |    | 873,944   |  



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued



|                                         |  |   |        |  |   |        |  |   |     |  |   |   |  |   |       
|---------------------------------------- |  | - | ------ |  | - | ------ |  | - | --- |  | - | - |  | - | ------
|Property Sales:                          |  |   |        |  |   |        |  |   |     |  |   |   |  |   |       
|Sales price                              |  | $ | 12,436 |  | $ | 36,677 |  | $ |    |  | $ |  |  | $ | 49,113
|Cost of sales                            |  |   | 7,701  |  |   | 23,441 |  |   |    |  |   |  |  |   | 31,142
|Recognition of previously deferred gains |  |   |       |  |   |       |  |   | 494 |  |   |  |  |   | 494   
|                                         |  |   |        |  |   |        |  |   |     |  |   |   |  |   |       
|Gain on sale                             |  | $ | 4,735  |  | $ | 13,236 |  | $ | 494 |  | $ |  |  | $ | 18,465
|                                         |  |   |        |  |   |        |  |   |     |  |   |   |  |   |       

The tables below reconcile the segment information to the corresponding amounts in the Consolidated Statements of
Operations:



|                                             |  |                                          |        |   |                                         |   |        |      |  |   |         |   |  |   |         |  
|-------------------------------------------- |  | ---------------------------------------- | ------ | - | --------------------------------------- | - | ------ | ---- |  | - | ------- | - |  | - | ------- | -
|                                             |  | For the Three Months Ended September 30, |        |   | For the Nine Months Ended September 30, |  
|                                             |  | 2006                                     |        |   | 2005                                    |   |        | 2006 |  |   | 2005    |  
|Segment operating income (loss)              |  | $                                        | (2,996 | ) |                                         | $ | (610   | )    |  |   | (6,171  | ) |  | $ | (6,323  | )
|Other non-segment items of income (expense): |  |                                          |        |   |                                         |   |        |      |  |   |         |   |  |   |         |  
|General and administrative                   |  |                                          | (2,102 | ) |                                         |   | (1,717 | )    |  |   | (3,339  | ) |  |   | (5,089  | )
|Advisory fees                                |  |                                          | (2,149 | ) |                                         |   | (1,768 | )    |  |   | (6,336  | ) |  |   | (5,305  | )
|Interest income                              |  |                                          | 724    |   |                                         |   | 791    |      |  |   | 2,393   |   |  |   | 2,688   |  
|Gain (loss) on foreign currency transaction  |  |                                          |       |   |                                         |   | 37     |      |  |   | 4       |   |  |   | 265     |  
|Net income fee                               |  |                                          |       |   |                                         |   |       |      |  |   |        |   |  |   |        |  
|Other income (expense)                       |  |                                          | 265    |   |                                         |   | 485    |      |  |   | 571     |   |  |   | 719     |  
|Litigation settlement                        |  |                                          |        |   |                                         |   | (1,840 | )    |  |   |         |   |  |   | (1,840  | )
|Equity in earnings of investees              |  |                                          | (257   | ) |                                         |   | (170   | )    |  |   | (326    | ) |  |   | 976     |  
|Minority interest                            |  |                                          | 355    |   |                                         |   | 32     |      |  |   | 544     |   |  |   | 7       |  
|Income tax benefit                           |  |                                          | 646    |   |                                         |   | 396    |      |  |   | 1,577   |   |  |   | 3,835   |  
|                                             |  |                                          |        |   |                                         |   |        |      |  |   |         |   |  |   |         |  
|Net loss from continuing operations          |  | $                                        | (5,514 | ) |                                         | $ | (4,364 | )    |  | $ | (11,083 | ) |  | $ | (10,067 | )
|                                             |  |                                          |        |   |                                         |   |        |      |  |   |         |   |  |   |         |  

NOTE 9. DISCONTINUED OPERATIONS

Effective January 1, 2002, TCI adopted Statement of Financial Accounting Standard No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, which established a single accounting
model for the impairment or disposal of long-lived assets, including discontinued operations. This statement requires that the operations related to properties that have been sold or properties that are intended to be sold be presented as
discontinued operations in the statement of operations for all periods presented, and properties intended to be sold are to be designated as held-for-sale on the balance sheet. In the event of a future sale, TCI is required to reclassify
portions of previously reported operations to discontinued operations within the Statement of Operations.

For the nine months ended September 30,
2006 and 2005, income from discontinued operations relates to properties TCI sold or intends to sell in 2006 as well as properties TCI sold during 2004 and 2005 or intends to sell in 2006. The following table summarizes revenue and expense
information for the properties sold and held-for-sale.



|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|----------------------------------------------- |  | --------------------------------------- | ----- | - | -------------------------------------- | - | ----- | ---- |  | - | ------ | - |  | - | ------ | -
|                                                |  | For the Three MonthsEnded September 30, |       |   | For the Nine MonthsEnded September 30, |  
|                                                |  | 2006                                    |       |   | 2005                                   |   |       | 2006 |  |   | 2005   |  
|Revenue:                                        |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|Rental                                          |  | $                                       | 1,867 |   |                                        | $ | 4,052 |      |  | $ | 6,719  |   |  | $ | 12,916 |  
|Property operations                             |  |                                         | 1,677 |   |                                        |   | 3,227 |      |  |   | 4,635  |   |  |   | 9,667  |  
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|                                                |  |                                         | 190   |   |                                        |   | 825   |      |  |   | 2,084  |   |  |   | 3,249  |  
|Expenses:                                       |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|Interest                                        |  |                                         | 656   |   |                                        |   | 1,423 |      |  |   | 2,949  |   |  |   | 5,311  |  
|Depreciation                                    |  |                                         | 84    |   |                                        |   | 165   |      |  |   | 319    |   |  |   | 536    |  
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|                                                |  |                                         | 740   |   |                                        |   | 1,588 |      |  |   | 3,268  |   |  |   | 5,847  |  
|Gain on sale of operations                      |  |                                         | 2,396 |   |                                        |   | 494   |      |  |   | 5,689  |   |  |   | 13,730 |  
|Write-down of assets held-for-sale              |  |                                         |      |   |                                        |   |      |      |  |   |       |   |  |   | (1,580 | )
|Equity in investees gain on sale of real estate |  |                                         |      |   |                                        |   | 1,401 |      |  |   |       |   |  |   | 1,405  |  
|Income tax expense                              |  |                                         | (646  | ) |                                        |   | (396  | )    |  |   | (1,577 | ) |  |   | (3,835 | )
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|Net income from discontinued operations         |  | $                                       | 1,200 |   |                                        | $ | 736   |      |  | $ | 2,928  |   |  | $ | 7,122  |  
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  



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TRANSCONTINENTAL REALTY INVESTORS, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Continued

NOTE 10. COMMITMENTS AND
CONTINGENCIES

Partnership Obligations. TCI is the limited partner in nine partnerships that are currently constructing residential properties.
As permitted in the respective partnership agreements, TCI intends to purchase the interests of the general partner and any other limited partners in these partnerships subsequent to the final completion of these construction projects. The amounts
paid to purchase the non-affiliated partners are limited to development fees earned by the non-affiliated partners, and are set forth in the respective partnership agreements. The total amount of the expected buyouts remaining at September 30,
2006 is approximately $1.4 million.

Commitments.In September 2005, TCI deposited $1.8 million with a seller for the purchase of partnership and
member interests in 14 separate apartments and apartment developments located in the Southeast. Each partnership or membership purchase will be closed separately, pending lender approval and other conditions. TCIs total cash investment can be
up to $3.6 million if all interests are purchased.

Liquidity.The Companys principal liquidity needs are funding normal recurring
expenses, meeting debt service requirements, funding capital expenditures, funding development costs not otherwise covered by construction loans and funding new property acquisitions not otherwise covered by acquisition financing. Management
believes the Companys liquidity needs will be satisfied by existing cash balances, cash flows generated by operations and provided by financing activities as well as cash provided from asset sales.

Litigation. TCI is involved in various lawsuits arising in the ordinary course of business. Management is of the opinion that the outcome of these lawsuits will
have no material impact on TCIs financial condition, results of operations or liquidity.

Guarantees. In September 2005, TCI guaranteed a loan
of $1.6 million for a subsidiary of Unified Housing Foundation (UHF), a related party. This loan is secured by a first lien on 22.3 acres of land known as Chase Oaks held by the related party. The current balance of the debt
is $778,000.

NOTE 11. SUBSEQUENT EVENTS

On or
about October 25, 2006, TCI received approximately $30 million, which represents a recovery of insurance proceeds related to the loss suffered as a result of Hurricane Katrina on August 29, 2005. This recent recovery brings the total TCI
recovery as a result of Katrina to $49.2 million. These proceeds have been used to offset repair costs and loss of rents suffered as a direct result of Katrina as well as pay down debt associated with the three New Orleans properties and other debt
owed by related parties. The company continues to negotiate with its insurance carriers for additional monies sought under the applicable insurance policy.

In November 2006, Realty Advisors, Inc. (RAI), a privately-owned affiliate of ARI and TCI, acquired 1,820,000 shares, or approximately 34%, of the outstanding common stock of SH Chemical Company Ltd. (SH). SH is
a public company and its common shares are traded on the Korean Stock Exchange under the symbol 002360. The shares were acquired from institutional investors between November 1-3, 2006. SH is headquartered in Seoul, South Korea. SH
is a manufacturer of an expanded polystyrene (EPS) resin, which is an expandable bead that contains an environmentally friendly blowing agent used for packaging and insulation board containers for agricultural and marine products. RAI
funded the acquisition with a) a $7.5 million commercial bank loan and b) $7.7 million in cash. The loan is guaranteed by TCI and is secured by the SH common stock acquired, 869,300 shares of TCI common stock owned by an ARI subsidiary, and other
securities.

Other events occurring after the date of these financial statements are included within each note, as appropriate.



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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

WARNING
CONCERNING FORWARD LOOKING STATEMENTS

The following discussion should be read in conjunction with the financial statements and notes thereto
appearing elsewhere in this report.

This Report on Form 10-Q may contain forward-looking statements within the meaning of the federal securities laws,
principally, but not only, under the caption Managements Discussion and Analysis of Financial Condition and Results of Operations. We caution investors that any forward-looking statements in this report, or which management may
make orally or in writing from time to time, are based on managements beliefs and on assumptions made by, and information currently available to, management. When used, the words anticipate, believe, expect,
intend, may, might, plan, estimate, project, should, will, result and similar expressions which do not relate solely to historical matters
are intended to identify forward-looking statements. These statements are subject to risks, uncertainties, and assumptions and are not guarantees of future performance, which may be affected by known and unknown risks, trends, uncertainties, and
factors, that are beyond our control. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those anticipated, estimated, or projected. We caution
you that, while forward-looking statements reflect our good faith beliefs when we make them, they are not guarantees of future performance and are impacted by actual events when they occur after we make such statements. We expressly disclaim any
responsibility to update our forward-looking statements, whether as a result of new information, future events or otherwise. Accordingly, investors should use caution in relying on past forward-looking statements, which are based on results and
trends at the time they are made, to anticipate future results or trends.

Some of the risks and uncertainties that may cause our actual results,
performance, or achievements to differ materially from those expressed or implied by forward-looking statements include, among others, the factors listed and described at Item 1A Risk Factors in the Companys Annual Report on
Form 10-K, which investors should review. There have been no changes from the risk factors previously described in the Companys Form 10-K for the fiscal year ended December 31, 2005 (the Form 10-K).

Other sections of this report may also include suggested factors that could adversely affect our business and financial performance. Moreover, we operate in a very
competitive and rapidly changing environment. New risks emerge from time to time and it is not possible for management to predict all such matters; nor can we assess the impact of all such matters on our business or the extent to which any factor,
or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Given these uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of
actual results. Investors should also refer to our quarterly reports on Form 10-Q for future periods and current reports on Form 8-K as we file them with the SEC, and to other materials we may furnish to the public from time to time through Forms
8-K or otherwise.

Overview

TCI invests in real
estate through acquisitions, leases, and partnerships and in mortgage loans on real estate, including first, wraparound, and junior mortgage loans. TCI is the successor to a California business trust organized on September 6, 1983, which
commenced operations on January 31, 1984. On November 30, 1999, TCI acquired all of the outstanding shares of beneficial interest of Continental Mortgage and Equity Trust (CMET), a real estate company, in a tax-free exchange of
shares, issuing 1.181 shares of its Common Stock for each outstanding CMET share. TCI accounted for the merger as a purchase.

TCI is an externally advised
real estate investment company that owns a diverse portfolio of residential apartment communities, office buildings, hotels and other commercial properties. TCI has a preeminent track record as a developer, completing the construction of 19
apartment properties comprising 4,300 units over the last three years. In addition, TCI owns a high-quality portfolio of land held for future development and continues to invest in well-located land tracts in high-growth markets primarily in Texas.
As of September 30, 2006, the Company owned approximately 9,595 units in 50 residential apartment communities, 34 commercial properties comprising almost 5 million rentable square feet and 4 hotels containing a total of 313 rooms. In
addition, at September 30, 2006, TCI owned 4,200 acres of land held for development and had approximately 1,860 apartment units in nine projects under construction.The Company currently owns income-producing properties and land in 15
states as well as in Poland and the U.S. Virgin Islands. Prime Income Asset Management, LLC (Prime) is the Companys contractual advisor. Regis Property Management, LLC, an affiliate of Prime, manages the Companys commercial
properties. Regis Hotel I, LLC, another Prime affiliate, manages the Companys hotel investments. TCI engages various third-party companies to lease and manage its apartment properties.



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Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America, or GAAP, requires management to use judgment in the application of accounting
policies, including making estimates and assumptions. We base our estimates on historical experience and on various other assumptions believed to be reasonable under the circumstances. These judgments affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the dates of the financial statements and the reported amounts of revenue and expenses during the reporting periods. If our judgment or interpretation of the facts and circumstances
relating to various transactions had been different, it is possible that different accounting policies would have been applied resulting in a different presentation of our financial statements. From time to time, we evaluate our estimates and
assumptions. In the event estimates or assumptions prove to be different from actual results, adjustments are made in subsequent periods to reflect information that is more current. Below is a discussion of accounting policies that we consider
critical in that they may require complex judgment in their application or require estimates about matters that are inherently uncertain.

Real
Estate Held for Investment

Real estate held for investment is carried at cost. Statement of Financial Accounting Standards No. 144,
Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS No. 144), requires that a property be considered impaired if the sum of the expected future cash flows (undiscounted and without interest charges) is
less than the carrying amount of the property. If impairment exists, an impairment loss is recognized, by a charge against earnings, equal to the amount by which the carrying amount of the property exceeds the fair value less cost to sell the
property. If impairment of a property is recognized, the carrying amount of the property is reduced by the amount of the impairment, and a new cost for the property is established. Such new cost is depreciated over the propertys remaining
useful life. Depreciation is provided by the straight-line method over estimated useful lives, which range from five to 40 years.

Real Estate
Held-for-Sale

Foreclosed real estate is initially recorded at new cost, defined as the lower of original cost or fair value minus estimated costs
of sale. SFAS No. 144 also requires that properties held for sale be reported at the lower of carrying amount or fair value less costs of sale. If a reduction in a held for sale propertys carrying amount to fair value less costs of sale
is required, a provision for loss is recognized by a charge against earnings. Subsequent revisions, either upward or downward, to a held for sale propertys estimated fair value less costs of sale are recorded as an adjustment to the
propertys carrying amount, but not in excess of the propertys carrying amount when originally classified as held for sale. A corresponding charge against or credit to earnings is recognized. Properties held for sale are not depreciated.

Investments in Equity Investees

TCI may be
considered to have the ability to exercise significant influence over the operating and investment policies of certain of its investees. Those investees are accounted for using the equity method. Under the equity method, an initial investment,
recorded at cost, is increased by a proportionate share of the investees operating income and any additional investment and decreased by a proportionate share of the investees operating losses and distributions received.

Recognition of Rental Income

Rental income for commercial
property leases is recognized on a straight-line basis over the respective lease terms. Rental income for residential property leases is recorded when due from residents and is recognized monthly as earned, which is not materially different than on
a straight-line basis as lease terms are generally for periods of one year or less. For hotel properties, revenues for room sales and guest services are recognized as rooms are occupied and services are rendered.

Revenue Recognition on the Sale of Real Estate

Sales of real
estate are recognized when and to the extent permitted by Statement of Financial Accounting Standards No. 66, Accounting for Sales of Real Estate (SFAS No. 66), as amended by SFAS No. 144. Until the
requirements of SFAS No. 66 for full profit recognition has been met, transactions are accounted for using the deposit, installment, cost recovery, or financing method, whichever is appropriate. When TCI provides seller financing, gain is not
recognized at the time of sale unless the buyers initial investment and continuing investment are deemed to be adequate as determined by SFAS 66 guidelines.



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Non-performing Notes Receivable

TCI considers a note receivable to be non-performing when the maturity date has passed without principal repayment and the borrower is not making interest payments. Any new note receivable that results from a
modification or extension of a note considered non-performing will also be considered non-performing, without regard to the borrowers adherence to payment terms.

Interest Recognition on Notes Receivable

Interest income is not recognized on notes receivable that have been
delinquent for 60 days or more. In addition, accrued but unpaid interest income is only recognized to the extent that the net realizable value of the underlying collateral exceeds the carrying value of the receivable.

Allowance for Estimated Losses

A valuation allowance is
provided for estimated losses on notes receivable considered to be impaired. Impairment is considered to exist when it is probable that all amounts due under the terms of the note will not be collected. Valuation allowances are provided for
estimated losses on notes receivable to the extent that the investment in the note exceeds managements estimate of fair value of the collateral securing such note.

Fair Value of Financial Instruments

The following assumptions were used in estimating the fair value of its
notes receivable, marketable equity securities, and notes payable. For performing notes receivable, the fair value was estimated by discounting future cash flows using current interest rates for similar loans. For non-performing notes receivable,
the estimated fair value of TCIs interest in the collateral property was used. For marketable equity securities, fair value was based on the year-end closing market price of each security. For notes payable, the fair value was estimated using
current rates for mortgages with similar terms and maturities.

Liquidity and Capital Resources

TCI reported a loss from continuing operations of $11.1 million for the nine months ended September 30, 2006, which included the following non-cash items:
depreciation and amortization of $16.4 million, income tax benefit of $1.6 million, equity in losses of investees of $326,000 and a gain on land sales of $12.0 million.

For the nine months ended September 30, 2006, net cash provided by operating activities was $1.2 million, due primarily to the loss from continuing operations, offset by a decrease in other assets of $14.2
million.

Also for the nine months ended September 30, 2006, net cash used in investing activities was $61.4 million, primarily due to real estate
construction and improvements of $19.4 million, payments for real estate acquisitions of $86.6 million, deposits on pending purchases of $7.8 million and additional fundings on notes receivable of $1.9 million. These outflows for investing
activities were offset by the collection of $13.0 million on notes receivable and proceeds from sale of real estate of $41.4 million.

Net cash provided by
financing activities of $57.8 million was due to proceeds received from the funding or refinancing of notes payable of $116.1 million; offset by cash payments of $54.0 million to paydown existing notes payable, and $3.7 million for financing costs.

Net cash from discontinued operations was $3.8 million due to proceeds from sales of $4.6 million, offset by negative operating cash flows of $865,000.

Management reviews the carrying values of TCIs properties and mortgage notes receivable at least annually and whenever events or a change in
circumstances indicate that impairment may exist. Impairment is considered to exist if, in the case of a property, the future cash flow from the property (undiscounted and without interest) is less than the carrying amount of the property. For notes
receivable, impairment is considered to exist if it is probable that all amounts due under the terms of the note will not be collected. If impairment is found to exist, a provision for loss is recorded by a charge against earnings. The mortgage note
receivable review includes an evaluation of the collateral property securing each note. The property review generally includes: (1) selective property inspections; (2) a review of the propertys current rents compared to market rents;
(3) a review of the propertys expenses; (4) a review of maintenance



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##### Table of Contents

requirements; (5) a review of the propertys cash flow; (6) discussions with the manager of the property;
and (7) a review of properties in the surrounding area.

Related Party Transactions

In August 2005, TCI sold 8.8 acres in Dallas, Texas known as the Centura Land to IORI for $6.7 million. For a period of one year following closing and 90 days
thereafter, IORI has the right to convey the land to TCI for the original sales price, plus a 12 percent preferred return per annum accruing from the closing date. This transaction has been treated as a financing by TCI, with a note payable of $6.7
million recorded. TCI and IORI are in the process of extending IORIs right to convey the land to TCI for an additional 12-month period

In June 2005,
TCI purchased a subsidiary of a related party, decreasing the affiliate receivable by $4.1 million.

In October 2004, TCI sold the Durham Centre in Durham,
North Carolina to Edina Park Plaza Associates, LP, a limited partnership in which the managing general partner is a subsidiary of ARI, for $21.3 million cash plus an all-inclusive wrap-around note of $14.5 million. The note bears interest at a
fixed rate of 7.63 percent, requires monthly interest payments, and matures in September 2007. TCI also made a loan to the partnership for $3.3 million. The note bears interest at a fixed rate of 7.63 percent, requires monthly interest
payments, and matures in September 2017.

In March 2004, TCI sold a K-Mart in Cary, North Carolina to Basic Capital Management (BCM) for $3.2
million, including the assumption of debt. TCI also provided $1.5 million of the purchase price as seller financing. The unsecured note bears interest at the prime rate plus two percent and matures in April 2008.

In March 2004, TCI sold the Texstar Warehouse in Arlington, Texas to BCM for $2.4 million, including the assumption of debt. TCI also provided $1.3 million of the
purchase price as seller financing. The unsecured note bears interest at the prime rate plus two percent and matures in April 2008.

In October 2003,
TCI sold the One Hickory office building in Farmers Branch, Texas to IORI, a related party. TCI owns approximately 25 percent of the outstanding common shares of IORI. TCI sold One Hickory to IORI for $12.2 million and financed $12.0
million of the purchase price with a note receivable bearing interest at 5.49 percent per annum and maturing in June 2006. The $12.2 million sales price approximated TCIs initial cost of acquiring the property in 2002 from American Realty
Investors, Inc. (ARI), a related party. ARI owns approximately 82 percent of the outstanding common shares of TCI. IORI immediately sold One Hickory together with 202 acres of undeveloped land to a partnership, the general
partner of which was then an affiliate of ARI for a total sales price of $37.2 million. In May 2006, the partnership sold One Hickory and the undeveloped land back to IORI for $37.2 million. IORI in turn sold One Hickory back to TCI, in satisfaction
of the $12.0 million note payable by IORI.

TCI leases office space to Prime at the companys office at the One Hickory office building. The, lease
originally entered into with the buildings previous owner in October 2003, was for 59,115 sq. ft. (approximately 59.0% of the building), had a term of three years, and provided for annual base rent of $1.3 million, or $21.50 per sq. ft.
Effective May 1, 2004, the lease was amended to 54,404 sq. ft. (approximately 56% of the building), with an annual base rent of $1.2 million, or $21.50 per sq. ft. In November 2005, the lease was amended to 48,151 square feet (approximately 49%
of the building), with an annual base rent of $1.0 million, or $21.50 per square foot. TCI assumed the rights and obligations of the lease in connection with the purchase of the building in May 2006.

Commitments and Contingencies

TCI has contractual obligations
and commitments primarily with regard to payment of mortgages.

In September 2005, TCI guaranteed a loan of $1.6 million for a subsidiary of UHF, a related
party. This loan is secured by a first lien on 22.3 acres of land held by the related party.

Results of Operations

TCI had net losses of $4.3 million and 8.2 million for the three and nine months ended September 30, 2006, including gains on the sale of land totaling $3.0
million and $12.0 million and income from discontinued operations of $1.2 million and $2.9 million, respectively. This is compared to a net loss of $3.6 million and net income of $2.9 million in the corresponding periods of 2005, which include gains
on sale of land of $2.3 million and$4.7 million, and income from discontinued operations of $736,000 and $7.1 million, respectively. Fluctuations in these and other components of revenues and expense between the 2006 and 2005 periods are discussed
below.



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Rents for the three months ended September 30, 2006 increased to $33.6 million as compared to $27.2 million in 2005.
This increase is mainly due to additional rental income from the completion of new apartment construction projects, commercial property acquisitions, and increased occupancy in TCIs commercial properties. These gains were offset by a decrease
in hotel revenues due to the sale of the Majestic Hotel in San Francisco, California in the fourth quarter of 2005.

Rents for the nine months ended
September 30, 2006 increased to $93.7 million as compared to $73.6 million in 2005. This increase is mainly due to additional rental income from the completion of new apartment construction projects, the purchase of additional apartment and
commercial properties, and from increased occupancy from TCIs commercial properties. These gains were offset by a decrease in hotel revenues due to the sale of the Majestic Hotel in San Francisco, California in the fourth quarter of 2005.

Property operations expense increased to $20.6 million for the three months ended September 30, 2006, compared to $16.9 million in 2005. This
increase is mainly due to the completion of new apartment construction projects and the purchase of additional apartment and commercial properties, and from increased occupancy from TCIs commercial properties.

Property operations expense increased to $56.8 million for the nine months ended September 30, 2006, compared to $46.1 million in 2005. This increase is mainly due
to the completion of new apartment construction projects, commercial property acquisitions, and from increased occupancy from TCIs commercial properties. Property operations expenses for the remaining quarter of 2006, and in 2007, may increase
as TCI completes the construction of new apartment projects.

Interest income decreased to $2.4 million for the nine months ended September 30, 2006,
compared to $2.7 million in 2005. The decrease is primarily due to the payoff or paydown of notes receivable in the first and second quarters of 2006.

Interest expense increased to $13.1 million for the three months ended September 30, 2006, from $10.2 million in 2005. This increase is mainly due to new debt incurred from the completion of new apartment construction projects,
acquisition of commercial properties, plus additional interest from land loans due to new land purchases in 2005 and 2006.

Interest expense increased to
$38.6 million for the nine months ended September 30, 2006, from $27.8 million in 2005. This increase is mainly due to new debt incurred from the completion of new apartment construction projects, acquisition of commercial properties, plus
additional interest from land loans due to new land purchases in 2005 and 2006.

General and administrative expenses increased to $2.1 million for the
three months ended September 30, 2006, from $1.8 million in 2005. The increase was mainly due to higher legal, professional and consulting fees.

General and administrative expenses were $5.1 million for the nine months ended September 30, 2006 and 2005, approximately equal, period to period.

For the nine months ending September 30, 2006, gains on sale of real estate totaling $17.7 million were recognized. In the first quarter, a gain of $331,000 was recognized on the sale of Hollywood Casino land. In the second quarter,
gains included $8.8 million on the sale of McKinney Ranch Land, $2.9 million on the sale of the Willo-Wick Apartments, and $432,000 on the sale of Plantation Apartments. In the third quarter, gains included $1.1 million on the sale of Timbers on
Broadway Apartments, $1.3 million on the sale of Apple Lane Apartments, $425,000 for additional sales of Hollywood Casino Land, $1.3 million on Fruitland Land, and $1.1 on the Addison Park land.

Net income from discontinued operations for the nine months ended September 30, 2006 and 2005 relates to properties TCI sold or intends to sell. The following table
summarizes revenue and expense information for the properties sold and held-for-sale.



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|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|----------------------------------------------- |  | --------------------------------------- | ----- | - | -------------------------------------- | - | ----- | ---- |  | - | ------ | - |  | - | ------ | -
|                                                |  | For the Three MonthsEnded September 30, |       |   | For the Nine MonthsEnded September 30, |  
|                                                |  | 2006                                    |       |   | 2005                                   |   |       | 2006 |  |   | 2005   |  
|Revenue:                                        |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|Rental                                          |  | $                                       | 1,867 |   |                                        | $ | 4,052 |      |  | $ | 6,719  |   |  | $ | 12,916 |  
|Property operations                             |  |                                         | 1,677 |   |                                        |   | 3,227 |      |  |   | 4,635  |   |  |   | 9,667  |  
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|                                                |  |                                         | 190   |   |                                        |   | 825   |      |  |   | 2,084  |   |  |   | 3,249  |  
|                                                |  |                                         |       |  
|Expenses:                                       |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|Interest                                        |  |                                         | 656   |   |                                        |   | 1,423 |      |  |   | 2,949  |   |  |   | 5,311  |  
|Depreciation                                    |  |                                         | 84    |   |                                        |   | 165   |      |  |   | 319    |   |  |   | 536    |  
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|                                                |  |                                         | 740   |   |                                        |   | 1,588 |      |  |   | 3,268  |   |  |   | 5,847  |  
|                                                |  |                                         |       |  
|Gain on sale of operations                      |  |                                         | 2,396 |   |                                        |   | 494   |      |  |   | 5,689  |   |  |   | 13,730 |  
|Write-down of assets held-for-sale              |  |                                         |      |   |                                        |   |      |      |  |   |       |   |  |   | (1,580 | )
|Equity in investees gain on sale of real estate |  |                                         |      |   |                                        |   | 1,401 |      |  |   |       |   |  |   | 1,405  |  
|Income tax expense                              |  |                                         | (646  | ) |                                        |   | (396  | )    |  |   | (1,577 | ) |  |   | (3,835 | )
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  
|Net income from discontinued operations         |  | $                                       | 1,200 |   |                                        | $ | 736   |      |  | $ | 2,928  |   |  | $ | 7,122  |  
|                                                |  |                                         |       |   |                                        |   |       |      |  |   |        |   |  |   |        |  

Tax Matters Update

Financial statement income varies from taxable income principally due to the accounting for income and losses of investees, gains and losses from asset sales, depreciation on owned properties, amortization of
discounts on notes receivable and payable and the difference in the allowance for estimated losses. TCI had a loss for federal income tax purposes in the first nine months of 2006 and a loss in the first nine months of 2005; therefore, it recorded
no provision for income taxes.

At September 30, 2006, TCI had a net deferred tax asset of $44.2 million due to tax deductions available to it in
future years. However, as management cannot determine that it is more likely than not that TCI will realize the benefit of the deferred tax assets, a 100 percent valuation allowance has been established.

Inflation

The effects of inflation on TCIs operations
are not quantifiable. Revenues from property operations tend to fluctuate proportionately with inflationary increases and decreases in housing costs. Fluctuations in the rate of inflation also affect sales values of properties and the ultimate gain
to be realized from property sales. To the extent that inflation affects interest rates, TCIs earnings from short-term investments and the cost of new financings as well as the cost of variable interest rate debt, will be affected.

Environmental Matters

Under various federal, state and
local environmental laws, ordinances and regulations, TCI may be potentially liable for removal or remediation costs, as well as certain other potential costs, relating to hazardous or toxic substances (including governmental fines and injuries to
persons and property) where property-level managers have arranged for the removal, disposal or treatment of hazardous or toxic substances. In addition, certain environmental laws impose liability for release of asbestos-containing materials into the
air, and third parties may seek recovery for personal injury associated with such materials.

Management is not aware of any environmental liability
relating to the above matters that would have a material adverse effect on TCIs business, assets, or results of operations.



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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

At September 30, 2006, TCIs exposure to a
change in interest rates on its debt is as follows:



|                                          |  |         |         |                              |      |   |                                   |   |      
|----------------------------------------- |  | ------- | ------- | ---------------------------- | ---- | - | --------------------------------- | - | -----
|                                          |  | Balance |         | WeightedAverageInterest Rate |      |   | Effect of 1%Increase InBase Rates
|Notes payable:                            |  |         |         |                              |      |   |                                   |   |      
|Variable rate                             |  | $       | 183,483 |                              | 8.45 | % |                                   | $ | 1,834
|                                          |  |         |         |                              |      |   |                                   |   |      
|Total decrease in TCIs annual net income |  |         |         |                              |      |   |                                   | $ | 1,834
|                                          |  |         |         |                              |      |   |                                   |   |      
|Per share                                 |  |         |         |                              |      |   |                                   | $ | 0.23 
|                                          |  |         |         |                              |      |   |                                   |   |      

ITEM 4. CONTROLS AND PROCEDURES

Based upon an evaluation conducted under the supervision and with the participation of
TCIs Acting Principal Executive Officer and principal accounting officer of TCIs disclosure controls and procedures pursuant to Exchange Act Rules 13a-15 and 15d-15, TCIs Acting Principal Executive Officer and principal accounting
officer concluded that TCIs disclosure controls and procedures were effective at September 30, 2006.

There have been no changes in TCIs
internal controls over financial reporting during the quarter ending September 30, 2006 that have materially affected, or are reasonably likely to materially affect, TCIs internal control over financial reporting.



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PART II. OTHER INFORMATION

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

During the period of time covered by the Report,
Transcontinental Realty Investors, Inc. (the Company) did not repurchase any of its equity securities. The following table sets forth a summary for the quarter indicating no repurchases were made, and that at the end of the period
covered by this Report, a specified number of shares may yet be purchased under the programs specified below:



|                            |  |                                  |  |                              |   |                                                                        |   |                                                                         |        
|--------------------------- |  | -------------------------------- |  | ---------------------------- | - | ---------------------------------------------------------------------- | - | ----------------------------------------------------------------------- | -------
|Period                      |  | Total Number of Shares Purchased |  | Average Price Paid per Share |   | Total Number of Shares Purchased as Part of Publicly Announced Program |   | Maximum Number of Shares that May Yet be
Purchased Under the Program(a)
|Balance as of June 30, 2006 |  |                                  |  |                              |   |                                                                        |   |                                                                         | 219,090
|July 1-31, 2006             |  |                                 |  | $                            |  |                                                                        |  |                                                                         | 219,090
|August 1-31, 2006           |  |                                 |  |                              |  |                                                                        |  |                                                                         | 219,090
|September 1-30, 2006        |  |                                 |  |                              |  |                                                                        |  |                                                                         | 219,090
|                            |  |                                  |  |                              |   |                                                                        |   |                                                                         |        
|Total                       |  |                                 |  | $                            |  |                                                                        |  |                                                                         |        
|                            |  |                                  |  |                              |   |                                                                        |   |                                                                         |        

---

|(a) | On June 23, 2000, the TCI Board of Directors approved a share repurchase program for up to 1,409,000 shares of our common stock. This repurchase program has no termination
date.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



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ITEM 6. EXHIBITS

The following exhibits are filed with this report or incorporated by
reference as indicated;



|              |  |                                                                                                                                                                                                                                                                                                                                                                                                
|------------- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber |  | Description                                                                                                                                                                                                                                                                                                                                                                                    
|3.0           |  | Articles of Incorporation of Transcontinental Realty Investors, Inc., (incorporated by reference to Exhibit No. 3.1 to the Registrants Annual Report on Form 10-K for the year ended
December 31, 1991).                                                                                                                                                                                      
|              | 
|3.1           |  | Certificate of Amendment to the Articles of Incorporation of Transcontinental Realty Investors, Inc., (incorporated by reference to the Registrants Current Report on Form 8-K, dated
June 3, 1996).                                                                                                                                                                                          
|              | 
|3.2           |  | Certificate of Amendment of Articles of Incorporation of Transcontinental Realty Investors, Inc., dated October 10, 2000 (incorporated by reference to the Registrants Quarterly
Report on Form 10-Q for the quarter ended September 30, 2000).                                                                                                                                               
|              | 
|3.3           |  | Articles of Amendment to the Articles of Incorporation of Transcontinental Realty Investors, Inc., setting forth the Certificate of Designations, Preferences and Rights of Series A Cumulative
Convertible Preferred Stock, dated October 20, 1998 (incorporated by reference to Exhibit 3.1 to the Registrants Quarterly Report on Form 10-Q for the quarter ended September 30, 1998).     
|              | 
|3.4           |  | Certificate of Designation of Transcontinental Realty Investors, Inc., setting for the Voting Powers, Designations, References, Limitations, Restriction and Relative Rights of Series B
Cumulative Convertible Preferred Stock, dated October 23, 2000 (incorporated by reference to the Registrants Quarterly Report on Form 10-Q for the quarter ended September 30, 2000).                
|              | 
|3.5           |  | Certificate of Designation of Transcontinental Realty Investors, Inc., Setting for the Voting Powers, Designating, Preferences, Limitations, Restrictions and Relative Rights of Series C
Cumulative Convertible Preferred Stock, dated September 28, 2001 (incorporated by reference to Registrants Quarterly Report on Form 10-Q for the quarter ended September 30, 2001).                 
|              | 
|3.6           |  | Articles of Amendment to the Articles of Incorporation of Transcontinental Realty Investors, Inc. Decreasing the Number of Authorized Shares of and Eliminating Series B Preferred Stock dated
December 14, 2001 (incorporated by reference to Exhibit 3.7 to the Registrants Annual Report on Form 10-K for the year ended December 31, 2001).                                               
|              | 
|3.7           |  | By-Laws of Transcontinental Realty Investors, Inc. (incorporated by reference to Exhibit No. 3.2 to the Registrants Annual Report on Form 10-K for the year ended December 31,
1991).                                                                                                                                                                                                         
|              | 
|4.1           |  | Certificate of Designations, Preferences and Relative Participating or Optional or Other Special Rights, and Qualifications, Limitations or Restrictions Thereof of Series F Redeemable
Preferred Stock of American Realty Investors, Inc., dated June 11, 2001 (incorporated by reference to Exhibit 4.1 to the Registrants Annual Report on Form 10-K for the year ended December 31, 2001).
|              | 
|10.0          |  | Advisory Agreement dated as of October 1, 2003, between Transcontinental Realty Investors, Inc. and Prime Income Asset Management, LLC (incorporated by reference to Exhibit 10.0 to the
registrants current report on Form 8-K for event occurring October 1, 2003).                                                                                                                         
|              | 
|31.1          |  | *Certification pursuant to Rule 13a-14 and 15d-14 under the Securities Exchange Act of 1934, as amended.                                                                                                                                                                                                                                                                                       
|              | 
|32.1          |  | *Certification pursuant to 18 U.S.C. 1350.                                                                                                                                                                                                                                                                                                                                                     

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|* | Filed herewith.
|- | ---------------



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SIGNATURE PAGE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this
report to be signed on its behalf by the undersigned thereunto duly authorized.



|                        |  |                                         |  |                                                                                    
|----------------------- |  | --------------------------------------- |  | -----------------------------------------------------------------------------------
|                        |  | TRANSCONTINENTAL REALTY INVESTORS, INC.
|                        |  |                                        
|Date: November 14, 2006 |  | By:                                     |  | /s/ Steven A. Abney                                                                
|                        |  |                                         |  | Steven A. Abney                                                                    
|                        |  |                                         |  | Executive Vice President and Chief Financial Officer                               
|                        |  |                                         |  | (Principal Financial and Accounting Officer and Acting Principal Executive Officer)



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TRANSCONTINENTAL REALTY INVESTORS, INC.

EXHIBITS TO

QUARTERLY REPORT ON FORM 10-Q

For the Quarter Ended September 30, 2006



|               |  |                                                                                                        
|-------------- |  | -------------------------------------------------------------------------------------------------------
|Exhibit Number |  | Description of Exhibits                                                                                
|31.1*          |  | Certification pursuant to Rule 13a-14 and 15d-14 under the Securities Exchange Act of 1934, as amended.
|               | 
|32.1*          |  | Certification pursuant to 18 U.S.C. 1350.                                                              

---

|* | Filed herewith
|- | --------------



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